Question

At present, the world gold supply increases by about 1.5 percent annually while global real GDP growth is about 3.5 percent. If the world were operating under the gold standard at present, what effect would this difference have on the global economy? Would this effect be uniform across all countries or would it depend on the amount of gold a country produced? Be sure to explain your answers carefully.

Answer 1

Earlier countries used to set their currencies against some gold value this system was referred to as Gold standard system. People could convert their currency against some fixed gold value.

The gold standard generally has a deflationary effect. As in a closed economy, a country's money supply is detemined by the stock of gold reserves held whereas in order to increase the money supply the stock of gold should also be increased.

So, in this case as the supply of gold increases this will tend to increase the supply of money which would further lead to an inflationary effect.

The effect will not be uniform as it depends upon the quantity of imports and exports as well. Adding to this, the effect will also depend on the surplus or deficit a country was experiencing in terms of trade previously.