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"Muggle" refers to an individual who isn't born with magical powers and is incapable of using them.

In a country where both muggles and wizards have co-existed amicably for several centuries, technology is similar to that of the modern day. Since leaving the gold standard, people have to believe that the paper money (notes) in their hands must contain value even through it isn't linked to gold anymore. The wizards, on the other hand, have a special fiat system similar to paper money, but they use scrolls instead. Similarly, the wizards must agree that each piece of scroll must be worth a value, and that the scrolls cannot be tampered with magic. In order to establish a foreign exchange for both muggles and wizards to do trade, mutual trust is important. Without tampering with free and abusing magic, how could foreign exchange work for the muggles and wizards? (All wizards are familiar with DnD.)

Given that muggle gold acts as a commodity used to strengthen paper money, what would the wizards use to strengthen scrolls?

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  • $\begingroup$ What do you mean by "gold strengthens paper money"? Do you mean that gold is a significant part of the economy or that gold is an alternate means of exchange, should money fail? This smells like a weird gold standard. $\endgroup$ – Green Sep 20 '15 at 13:15
  • $\begingroup$ @Green: since gold cannot be diluted, it is able to retain its value much better than other forms of currency. Note that countries which mainly export gold will always have stronger currency than countries that focus on importing of gold hence access to gold reserves will greatly affect its paper money. $\endgroup$ – user6760 Sep 20 '15 at 14:55
  • $\begingroup$ Gold retains it's value because people want it, not because it can't be diluted. China is currently the world's largest gold importer and they have a very strong economy. South Africa is the largest exporter but they aren't a major economic super power. Gold importers must be doing something to generate enough money to buy all that gold. $\endgroup$ – Green Sep 20 '15 at 15:23
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    $\begingroup$ using two currencies make no sense. simple as that. $\endgroup$ – Jorge Aldo Sep 20 '15 at 18:49
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Both muggle and wizard currencies will need to be counterfeit resistant or there can be no exchange. As long as effective counterfeiting measures exist, then currency trading would work the same way as foreign currency exchange does in our own world.

Strengthening Scrolls

If the muggles use gold to strengthen, then why not use gold for wizards too? In the DnD universe, duplicating gold is either impossible or extraordinarily difficult. If wizard gold is somehow undesirable then perhaps some magical item may work just as well, say dragon's teeth. Any kind of item can work, it just needs to be incredibly difficult to duplicate.

Some muggle merchants, say eye of newt dealers, may accept scrolls because it is convenient for their customers. Some wizard merchants may accept muggle currency for the same reason.

An interesting question will be which currency is worth more and how demand for each currency will wax and wain. Over time, the currencies may converge into a single currency, especially if the muggles and wizards are living together in the same economy.

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My solution would be a magically imposed prohibition for magic users to prevent counterfeiting the state currency, sort of like the modern copy machine software prevents photocopying bills. It could be a powerful spell instituted by the ruling magic authority in order to maintain the joint mage/muggle economy in the mutual interest of both groups. Naturally, there will be exceptions, like clever/talented magic criminals, but that's what the magic police force is for. ;)

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If both exist and live in the same country then both would be using the same currency provided by the government that both live under. It would also be expected that the wizards would be participate in the government and help design the currency to be magic resistant/proof.

Here in the US even the sovereign nations of Native Americans use US currency for their their transactions on the reservations. It seems silly to have two forms of monetary transactions for citizens in one country. The cost of keeping two separate currencies and the exchange values would be very inefficient and costly. What it would look like is a class system like apartheid.

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  • $\begingroup$ It seems silly to have two forms of monetary transactions for citizens in one country -- yes, indeed, it seems very silly.... $\endgroup$ – Radovan Garabík Sep 20 '15 at 13:49
  • $\begingroup$ @RadovanGarabík those all seem to support my point. Two currencies in one country is a form of control that also separates the people. $\endgroup$ – bowlturner Sep 21 '15 at 13:05
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In the long run, the currency which can be counterfeited easily will lose all value. So if paper currency (or gold) works for muggles and mages can easily produce counterfeit (or real) currency/gold as desired, these items will gradually lose their value even for muggles.

Muggles depend on currency.

Mages can counterfeit currency easily.

Muggles deal with mages in daily life.

There will be more and more counterfeit currency as days pass.

Currency will lose it's value.

If you insist that mages will not produce fake (or real) copies of currency (even their scoundrels), then the currency system is as valid for mages as the muggles. And if the currency is useless for mages in terms of value, then it would gradually be invalid for muggles too. In the long run, only one system of currency will prevail in the society. The one, which is impossible (or at least harder) to counterfeit.

Plus, given that paper currency works on the basis of a stable government, mages would need to agree to count the word of some given senior mage (or a committee of them) as trustworthy. That trustworthy mage can then collect a lot of scrolls and issue counterfeit-proof slips of delivery of scroll xyz to the holder of this slip. Basically the same idea as that for muggle currency, but defined in terms of mages and their system.

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I don't see anything in the OP that causes the muggle and wizard systems to be any different to standard fiat currencies from our own world.

Both use paper notes, which need protecting against counterfeiting, and both paper currencies need to establish a demand - that is, a demand to hold them and use as money.

There are various theories as to why paper money in our world hold value (or don't) but I m going to go with a mainstream theory (the "Chartal" theory of money) for my answer.

Value for muggle and wizard currency is established by tax. Wizards pay tax in scrolls to the wizard government, and muggles pay tax in muggle paper money to muggle government. Tax payment is only accepted in the government issued fiat currency. Thus in order to avoid jail/azkabhan for non payment of taxes, all people must obtain the currency to pay tax.

So, that is how the respective systems establish value for their money. In terms of FX exchange, when muggles wish to buy from wizards they must find scrolls, and when wizards need to buy from muggles they need notes. As long as the balance of trade remains balanced over the medium term, this system will work fine and the two currencies will float against one another.

Lastly, what about electronic currency? According to the OP the technology is there and thus I would expect that the vast majority of currency transactions, both muggle-muggle, wizard-wizard and muggle-wizard take place electronically (or using some equally efficient magical equivalent).

Only a small fraction of modern currency transactions take place using physical cash.

So in short, unless the constrains in the OP are modified, Occam's razor suggests that it will work in exactly the same way as modern floating fiat currencies. Even if one is not a subscriber to the chartal theory of money, there are insufficient differences between the situation outlined in the OP and that in the real world to expect it would look much different.

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