Currencies fixed to gold

Question

Based on the quoted section & example below:

1. Why would the Franc or USD fall in price vs the other if they are both fixed to gold; why would having less gold cause paper money to contract?
2. Why would economic growth cause upward pressure on the price of gold in terms of goods and services; yet, downward pressure on the dollar prices of goods and services.

"When a country joined the gold standard its exchange rate against other member countries became fixed. If the exchange rate of, say, the US dollar against the French franc were to fall, then it would be cheaper for American importers of French goods to pay in gold than in depreciated dollars. Gold would flow to France. The US would have less gold to back its supply of paper dollars, which would then contract, pushing up the value of the dollar until it returned to its official price in terms of gold"

Thank you!

Answer 1

1. When it is said that currencies are 'fixed' against each other, they are maintained fixed. The exchange rate will still keep fluctuating, as there is obviously still a supply of and demand for the currency. The goal of the central bank is just to keep it within a certain range. In the case of a gold standard, the central bank basically guarantees gold as accepted currency. That makes that, if the U.S. dollar depreciates against the French dollar, U.S. producers will prefer to pay in gold, as your excerpt states. This basically reduces the supply of dollars, and the demand for French francs (how old is that textbook?!). So you can see that by guaranteeing the use of gold as a currency, the exchange rate automatically readjusts to a fixed level. But the key is that is still fluctuates! This point is easier to appreciate in case a currency is pegged against another one. In that case, the central bank will actively intervene in the market for the foreign currency to keep the domestic currency within a certain band, by selling its foreign reserves. In the case of a gold standard, there is a sort of decentralized intervention: the central bank's guarantee incentivizes producers and consumers to use the form of currency (gold or cash) that is cheapest to them, and that way, both forms' prices continually readjust wrt each other.