Fiat currency has a long history, having been used in China in the 7th century. The widespread use of paper money started in the 10th century after its first issuance by the government. The value of the notes was pegged at a fixed exchange rate for silk, silver, or gold. However, according to Selgin, people were not allowed to convert notes into gold, silver, or silk or vice versa. The initial plan for dealing with paper notes was to replace them at the end of every three years. This model was abandoned with the printing of more notes without retiring the old ones; hence, the risk of inflation.
In Europe, the earliest recorded history of the use of paper notes was in the 15th century, specifically in 1482, when Spain was besieged during the Conquest of Granada. However, the widespread use of fiat currency in the West commenced in 1661 after the Bank of Stockholm allowed a financial innovator, Johan Palmstrutch, to issue notes in the Kingdom of Sweden. However, the policies surrounding paper money at the time were so weak that by 1776, governments resorted to a silver standard.
However, the fiat currency, which is being used in modern times, evolved significantly in the 18th and 19th centuries. In the American colonies, paper notes were issued as bills of credit. Every provincial government could make notes and allow holders of such currencies to pay taxes with them. The fiat currency would be used to cater for current obligations. Given that this form of money was issued in local units, it could be used between individuals without being taxed. The fiat currency would be sold in exchange for silver, and it would be expired at a certain time. Later on, colonial governments introduced fiat money backed by taxes to facilitate the mobilization of resources in their conquered lands. The major characteristic of fiat money is that it was backed by an underlying nominal commodity, especially gold. This meant that if a person had gold, he or she could deposit it in a bank and be issued with paper notes, which could be used in trade.
In other words, the value of the paper money was determined by the value of the gold backing it. In the post-World War I era, governments continued were keen to observe the gold standard model. However, the cost of the war was unprecedented, and it made some governments consider the possibility of printing money without being backed by gold. Fearing that the uncontrolled printing of fiat money without the gold standard would lead to hyperinflation, the Bretton Woods system was created to regulate financial relations between counties, specifically after World War II. One troy ounce of gold was equivalent to 35 US dollars. However, in 1971, the gold standard rule was abandoned with the collapse of the Bretton Woods system, which meant that US dollars could not be converted directly for gold. As such, governments could print money not backed by any commodity, such as gold. Up to now, fiat money is used globally, but this currency does not have any intrinsic value. Within the time that fiat currency has been in existence, its alternatives have been gold, silver, silk, and other commodities.