Money consists of (a) legal tender money i.e., coins and currency notes and (b) bank money (i.e., demand deposits). Money is the perfect liquid asset and can be directly used for making purchases of goods and services.
But, the coins and currency are used only for small transactions. In case of big transactions where large payments are involved (for example, purchasing a car or a house), bank money in the form of bank cheques or bank drafts is used.
In modern monetary economies, people mostly use bank money in their transactions and thus bank money forms a major proportion of money supply. In this way, bank money is considered as liquid as the legal tender money.
There are other assets also which cannot be technically regarded as money, but are claims to money and perform some functions of money. Such assets are called near-money.
Near-money refers to all those assets which possess many of the characteristics of money, have high degree of liquidity and can inexpensively be converted into money.
Near-money cannot be directly used for making transactions. They must first be converted into money proper before spending.
In this way, near-money assets measure potential and not actual, transactions near-money assets can be easily converted into money without loss of nominal value; capital gains and losses of near-money assets are very small.
Near-money assets are highly liquid, but are not as liquid as the money is. They are close substitutes of money, but not the perfect substitutes. Some examples of near-money are bills of exchange, bonds, debentures, shares, etc.
‘Nearness’ of near-money depends on the degree of liquidity of the near-money assets. Liquidity refers to the ease with which the asset can be converted into money (i.e., sold or discounted) on short notice and with minimum cost.
Greater the liquidity, more near an asset is to money and vice versa. Over all liquidity of an economy depends upon the composition of the total stock of financial assets, because different assets carry different degrees of liquidity.
For instance (a) Coins, currency notes and demand deposits represent first grade liquidity; (b) time deposits, treasury bills, government securities, saving bonds, etc. represent second grade liquidity; and (c) other assets, like deposits of building societies, financial claims of hire- purchase companies, etc., represent third grade liquidity.
In fact, it is not clear where the line of demarcation is to be drawn between money and near-money assets; it is always arbitrary.