Question

i) Discuss the effects of Gold discovery in an economy where commodity Gold Standards are followed? Also explain the effects of increase in demand for gold.

ii) Assume a kingdom presently is producing gold coins to maximize his seigniorage from being the sole supplier of money. His present total revenue from producing gold coins is equal to 148 million units of goods and service, and this total cost of producing the coins is equal to 102 million units of goods and services. The marginal cost of gold coin production is constant, the profit-maximizing quantity of gold coins produced is 48 million. If the king decided to set the price of gold at a level optimal for the citizens of his kingdom, what price should he set?

Answer 1

i.) If there is more gold that is discovered in a country that follows the gold standard, then the value of its currency will depreciate. This is because the gold standard works in such a way that the country's paper currency is linked with some value of gold. If there is more gold that is discovered in the economy, then the people will be able to spend more gold to get the currency, and as a result of this, the value of the currency will reduce.

If there is an increase in the demand for the amount of gold in the economy, then the currency will depreciate, as people will be willing to give up mre units of the currency to get gold. On the other hand, if there is a reduction in the demand for gold, then the currency will appreciate, as the people will give less currency to get gold in exchange.

ii.)

Total revenue from producing gold coins = TR = 148 million

Total cost of producing the coins = TC = 102 million

Profit-maximizing quantity of gold coins = Q = 48 million

TR = P x Q

Hence, P = TR/Q = 148/48 = 3.08

Also, TC = C x Q

Hence,

C = TC/Q = 102/48 = 2.125

For the price to be set at the optimal level for the citizens, it should be equal to the cost of production. From our calculation, we can see that the per unit cost if 2.125, hence that should be the price of the gold coins.