I did not know of this tradition.
There are many stories about the derivation of Challenge Coins, but the one told most often originated in World War I. Airplanes were a daring and somewhat romantic new technology then, with the first flight having been recorded only 14 years earlier. Many young men enrolled in the Army Air Corps to be a pilot. Among them, a wealthy student from an Eastern college who, in a generous burst of collegiality had bronze coins made for each of his fellow pilots in the squadron. Each coin contained "USA" on one side and the squadron's number on the other. The Pilots began carrying this coin with them as good luck pieces.
One of the US Pilots was shot down over France and captured by the French Army who could not determine if he was an ally or a German Pilot that could speak English. When they decided to treat him as a German, the Pilot remembered the Squadron coin and showed it to the French soldiers. It proved to the French that he was an American and he was dispatched back to the US Forces.
The tradition of the coins continued on into Viet Nam where it was used in drinking games -- if you couldn't produce your coin, you had to buy the soldier or group of men challenging a round of drinks. After Viet Nam ended, the tradition mostly disappeared until Desert Storm and has gained in popularity since. As a a side note, when the soldier would carry their coin in their billfolds, it often looked like they were carrying a condom, which produced some interesting "challenge" stories when the ring indentation was noted by the military spouse.
Each member of the Executive Branch has Challenge Coins, but the Presidential Coin is the most coveted. Here is the coin that President Obama placed on each of the thirteen memorials yesterday as a sign of respect from the Commander in Chief.
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