Academic question about the impact of the gold standard.

[Bruce Wayne]

How does the gold standard limit the money supply?

If all the banks in the US have only X amount of gold in their gold-storage rooms, then the banknotes or dollars issued guaranteed by that X amount of gold has to be kept down. You may have more than a 1:1 ratio of value of banknotes issued to gold-n-hand, but the risk is entirely the bank's (in a purely libertarian universe w/o FDIC) if the customers do a run on the bank's gold,

If the above is true then...
When the supply of gold-backed currency is limited, does that risk inflation or deflation in the value of the US dollar?

Assuming the value of goods in the economy continues to grow at a healthy pace, say 2-3% per year, while the quantity of gold-backed dollars in circulation does not grow (or grows at a slower pace), due to the economic imperative of being ready to handle a run-on-gold from their note-holders, then... wouldn't that be deflationary? That is, wouldn't the fixed money supply eventually start to drive prices downward?

[jeff47]

1. Your first part is wrong

The gold wasn't held by banks. It was held by the feds - they were the ones issuing currency, after all. Banks dealt in currency (excluding odd situations like the wild west),

And yes, the gold standard is deflationary. That's one of the primary reasons it was abandoned. Before it was abandoned, the problem was dealt with by Congress manually setting the dollar<->gold exchange rate to less and less gold. They used inflationary pressure to counteract the gold standard's deflationary pressure.

[Bruce Wayne]

2. Of course, this was from a suppositional libertarian world...

where even money and currency printing were privatized (as they were during the 1800s)

[Art_from_Ark]

3. There was some private coining and printing of money in the 1800s

The US Mint began coining operations in 1793, and has produced coins for commerce in every year since. However, in the early days there were chronic shortages of coin-of-the-realm, so foreign precious metal coins were also used as legal tender, until 1857.

In addition, banks issued their own paper money (literally, "banknotes&quot in exchange for hard money (gold and silver) from around the 1830s to the early 1860s, and private minting of (mostly gold) coins was allowed, as long as the precious metal content conformed to Federal standards. Some private coiners even made penny tokens to make up for shortages of government-minted pennies, especially during the Panic of 1837 (America's first Great Depression, 1837-1841), and during the Civil War. However, the failure of an issuer of private tokens to redeem a hoard of his tokens that had been accumulated by a New York railway company led to the passage of the Coinage Act of 1864, which prohibited the issuance of private money (but wasn't fully enforced until the 1870s).