Will there be deflation under a gold standard?

[Daniel Unplugged]

It is often noted that during the 19th century, when gold was money, there was long periods of deflation. I will explain here why this occured, why it could have been otherwise, and why a gold standard does not mean there will be deflation.

 

It is said that the deflation of the 19th century was caused by the great increases in productivity due to the industrial revolution. This is not true per se. During the 19th century, the productivity in the production of consumer goods increased by 100%, but prices (I'm making these numbers up here, but they are about right and their exact value is not important) fell by only 20%. If the above theory was true, prices would have fallen by 50% (100%/200%). What causes the price of consumer goods relative to gold, is the relative productivity of consumer goods production vs the relative productivity of gold production, not just the productivity of the production of goods. Since consumer goods productivity increased by 100% and prices fell by 20%, we can infer that the productivity of gold production increased by 60% over the same period (160%/200%=80%= change in relative productivity of gold production=change in relative prices=20% price reduction)

 

The price decrease in the 19th century is exactly what one would expect, given that gold is a non-renewable resource, and that the easy to mine gold is gold that gets mined first. It could, however, have been otherwise. If gold productivity increased faster than consumer goods productivity, perhaps due to a new mining technique or a new discovery of a rich seam of gold, then prices would have increased. If we ever (I suspect we will soon) return to a gold standard, it is by no means certain that we will have deflation, even though it may be likely.

[Sal9000]

This is an excellent question. Your assertions are true, but you oversee the role of banks. These can engage in fractional reserve lending thus causing inflation. There was a heated debate in late 19th century on the question of bimetallism, since many were afraid that a pure goldstandard would lead to a concentration of wealth: http://en.wikipedia.org/wiki/Bimetallism

[Daniel Unplugged]

I intentionally did not mention the role of banks, or the many other factors that can affect the inflation rate. I find it best to focus on one factor at a time, in order to ensure clarity, and avoid an information overload, not to mention that I am not motivated to write an entire textbook explaining everything in economics. Thanks for the info.

[Brentb]

Food and water get cheaper over time with respect to the price of gold because they can be replenished over and over again. 

 

Other goods - maybe not so much. Oil, Coal, Natural gas, and other energy consumables are also limited like gold, and those will increase in price in the long run since the supply, while vast, is decreasing by the day. As I'm sure you're aware, oil and energy prices can drive the prices up on a lot of other unrelated goods due to costs of production and transportation. 

 

In general and in the long run, I would expect land prices to increase and decrease with respect to population size regardless of the currency used to purchase it.

 

Inflation and deflation may just be concepts to describe a centralized currency. I don't think these concepts make any sense in terms of a free market with competing currencies.

 

If some country or banking system were to return to gold standard currency, then you likely would end up with an open market of competing currencies.  Since the incentive to force citizens to use a specific currency is removed once the option to pay people in toilet paper is no longer valid.

[MrCapitalism]

At first I had a desire to criticize your argument, but after some though I just couldn't find a satisfactory argument against your claim. Then I realized the reason it was so difficult to respond is that I think you're absolutely correct!

 

Since a Gold standard is really a shorthand for saying "free market money production" the argument makes perfect sense. Gold is produced privately just like everything else, with no central plan, and with the goal of achieving profit for the producer. So under your scenario if production doubles and gold remains the same, then each gold ounce is capable of purchasing twice as many goods as it once was, for the same mining costs.

[Malovane]

 If we ever (I suspect we will soon) return to a gold standard, it is by no means certain that we will have deflation, even though it may be likely.

 

My god that would be awful under the current power dynamic:

 

• What entity owns most of the land capable of producing gold in the United States (and is gobbling up more and more)?
• What entity has proclaimed dominion over all bodies of water within the United States, where gold can be found?
• What entity owns the largest gold reserve on Earth?
• What entity currently controls the reserve currency of the world?

[Daniel Unplugged]

My god that would be awful under the current power dynamic:

 

 

[*]What entity owns most of the land capable of producing gold in the United States (and is gobbling up more and more)?

[*]What entity has proclaimed dominion over all bodies of water within the United States, where gold can be found?

[*]What entity owns the largest gold reserve on Earth?

[*]What entity currently controls the reserve currency of the world?

I'm not saying a gold standard would be a good thing, even though it may be preferable to our current system. What would be good is free market money, and I don't know what type of money that would be.

[original_brownbear]

I certainly think that under a gold standard deflation would occur, given economic growth exists that is capable of offsetting the amount of newly mined gold.

 

In my opinion though your initial post is economically highly fallacious. What does growth by 100% even mean? Was that measured in gold prices? Was that measured in "real" terms? What do "real" terms even mean given the changes in the kind and quality of products available at the beginning of the century and at the end of it?

Obviously trying to quantify any kind of macroecnomic growth is always a vain attempt of shoehorning something into the realm of mathematics and statistics that just does not belong in those fields. Monetary calculation as Mises for exampled pointed out, makes sense for the individual person and business. Using it for long term intertemporal calculations or for quantifying macroeconomic growth can not be scientific in any way.

[Daniel Unplugged]

At first I had a desire to criticize your argument, but after some though I just couldn't find a satisfactory argument against your claim. Then I realized the reason it was so difficult to respond is that I think you're absolutely correct!

ThanksYour initial desire to criticize my argument is completely natural, given that you presumably prefer (so do I) a gold standard to the current system, and that my argument weakens one of the arguments used to justify a gold standard. Great work for telling your lizard brain where to go (compliment).

What does growth by 100% even mean?

A doubling in size, but I never mentioned growth and 100% in the same sentence.

Obviously trying to quantify any kind of macroecnomic growth is always a vain attempt of shoehorning something into the realm of mathematics and statistics that just does not belong in those fields.

I certainly think that under a gold standard deflation would occur, given economic growth exists that is capable of offsetting the amount of newly mined gold.

Enough said.

[meta]

What appears to you to be be proof of economic growth?USA and EU are mostly in recession states, with rising unemployement.China is probably tweeking the numbers as well. Claiming to have 8% growth while their consumption of electricity seems to not grow that much.

Growth seems to be much lower than claimed by many (governements and experts).But I am not expert, I am just repeating what I heard from amalysts.You seem to agree that there would be deflation if their is growth, but what would happen with a gold standard and null growth?

[Daniel Unplugged]

What appears to you to be be proof of economic growth?USA and EU are mostly in recession states, with rising unemployement.China is probably tweeking the numbers as well. Claiming to have 8% growth while their consumption of electricity seems to not grow that much.Growth seems to be much lower than claimed by many (governements and experts).But I am not expert, I am just repeating what I heard from amalysts.You seem to agree that there would be deflation if their is growth, but what would happen with a gold standard and null growth?

In the short term, there would be inflation, since gold would continue to be mined, hence, an increase in the money supply without a corresponding increase in the size of the economy. Eventually though, gold would cease to be mined, because eventually the value of gold would drop below the cost of producing it. Note that gold is used for things other than money, so in reality, there would still need to be some mining to allow for it's use in jewellery and industry.Yeah, I don't believe government statistics either. Politicians lie, never take them at their word.The US, the EU and Japan are zombie economies. They won't come back to life, but will slowly rot away.

[Marblemarrow]

The price decrease in the 19th century is exactly what one would expect, given that gold is a non-renewable resource, and that the easy to mine gold is gold that gets mined first. It could, however, have been otherwise. If gold productivity increased faster than consumer goods productivity, perhaps due to a new mining technique or a new discovery of a rich seam of gold, then prices would have increased. If we ever (I suspect we will soon) return to a gold standard, it is by no means certain that we will have deflation, even though it may be likely.

In the context of the future one might want to consider the role of business expanding into the outer-space and the material bodies out there that are nothing less than treasures of rare elements. If we assume humanity is going to make it up there (in which there is an increasing interest among entrepreneurs), colonize/extort asteroids and other planets, ever increasing in its ability to grasp and manipulate the cosmos, it would not be too optimistic to conclude that the production of gold among other materials would grow exponentially for long periods. Of course it's hard to predict when mankind is ready and willing to take the next big step; then again going back to gold or breaking the shackles of the state are also things of the future generations, given how they are currently. Anyway, there's some speculation to the mix, hope it wasn't too far off the subject or the type of ideas you were looking for with this topic.

[Jer]

Are you saying deflation is a bad thing? I think the government holds this view but only because they don't want anybody to save money that could potentially be spent and taxed...

[Daniel Unplugged]

No. Free market money is a good thing. Whether it is inflationary or deflationary is secondary.