With your typical MMORPG, players can usually farm the world for raw materials essentially forever. Monsters/mineral veins/etc are usually on some sort of respawn timer, so other than time there really isn't a good way to limit the amount of new currency entering the system.
That really only leaves money sinks to try to take money out of the system. What are some strategies to prevent inflation of the in-game currency?
Money sinks are I guess the only real answer. Which means items or currency getting lost forever.
Eve Online blatantly has this through the mass destruction of items and ships through pvp (only partially replaced by insurance). Eve also has many other money sinks such as office rent, station fuels, ammunition etc.
Other games have similar consumables, either necessities like ammo or items that provide buffs etc. (food, potions, pet food, poisons etc.)
Many games (such as World of Warcraft) feature Bind on Pickup and Bind on Equip items. They are actually money sinks. You can enchant and add gems to your items but at some point you will upgrade it. So upgrading actually destroys the old item along with any value added to it via enchanting etc. Or in some games you can 'recycle' it for less that the original value.
This is a nice sink because it doesn't negatively impact players. They only really notice it at the same time as they are cheering about their brand new shiny loot. Also, even if the item is never lost and just remains in a character's backpack it can be considered out of the economy because it will never pass to another player.
Which brings us to other utility money sinks like increased bank and inventory space.
Aesthetic upgrades are also a good way to introduce sinks without affecting the gameplay balance of your game. Things like clothing dye or vanity mounts and pets.
Notice that only one person here before me has given the correct answer - "currency can't inflate if there's a limited amount of it." Indeed, with infinite resource generation, currency will actually deflate, as the amount of resources goes up and the amount of currency stays fixed.
It's an economy. You're not the Fed. Stop minting currency, and stop listening to people that don't understand the economy when asking about it. The underlying cause of inflation is an increasing money supply, which we only think of as normal because we live in the very first semi-stable fiat currency in history (and that won't last - we'll get out of it, or the dollar will collapse.)
What you actually want to do is mint a fixed, large count of currency, and play a balancing game between resource production and resource consumption (that is, modulate resource availability such that the total production is approximately what consumption was yesterday.) Easiest long-term stable way to do that is to keep a running tally of production versus consumption differential, and to use yesterday's data as a target for a 95% repair towards zero (which will allow a damping effect on oscillation, which will occur naturally as the mining population periodically shifts.)
Several of the above answers mention some important ways to reduce inflation but there's a few important money sinks that deserve some more explanation:
Economic exchange fees: These are fees from converting a player's wealth from one form to another. A prime example of this in nearly every game is the vendor sell price. NPC vendors will always pay less than a good is "worth", and in the process players lose a lot of economic value. Players also lose value by using the auction house (posting fees), or enchanting items. You could also charge a fee for mailing items (a twinking fee) without too much complaining I suspect. These fees are great because the player will normally 100% accept them as the price of doing business, as they mirror real world financial transactions.
Death Penalty: Many many games (WoW included) take a tax whenever a player dies, often as item repair fees. These fees are great because they help provide players an incentive to not die while not being as prohibitively painful as XP loss or flat out item destruction.
Developer-run auctions/lottos: I haven't seen too many games do this, but one way to automatically reduce inflation is to provide some sort of valuable auction that players can bid on, but which is actually run by the developer (so 100% of the value is removed instead of transferred to another player). For instance, you could auction off naming rights for a street in town to the highest-paying guild, or a statue placement, or anything you want. The best part of this is that the cost should automatically adjust to match available player wealth, with no effort on the developer's end. Kingdom of loathing has removed tons of money from the economy in a similar by using a lotto system (100 gold to buy a ticket, can buy as many as you want) for rare aesthetic items.
Creating resources endlessly is an issue but completely closed systems have their downfalls too. Take a look at Shattered World. Completely closed economy with player run shops, banks, etc. Monsters in the world were actually equipped by items purchased from player shops by the game. The hoarding instinct mentioned above killed the game though. There were taxes but there was also a player monarch who surprisingly also enjoyed hoarding of money.
To make a closed system work you need to give the rich players incentives to spend their money. This is similar to the classic open economy with the caveat that rich players giving money to poor players helps this system while it does little for the open one. One interesting way to do this is to put in place systems to allow rich players to "hire" poorer ones out. One could require large reserves of stone to maintain their opulent castle, much more then they could mine on their own, and allow them to have an NPC reward money from their vaults to players who help supply stone for the keep.
Depending on how other resources are handled in the game you may actually end up with large amounts of deflation with infinite veins etc mentioned before.
One crucial aspect that I don't see people mentioning here: make sure you have at least one money sink that scales up automatically as people get richer. Fees for walking around the world and armor repair won't scale up, since they're based on fixed values.
Special novelty items that you can buy for large amounts of gold do scale up, in an economic sense, because as more money floods into the world people will buy more of them. However, this has a firm upper limit, and if way too much money floods in, they'll stop scaling.
The standard scaling-money-sink is auction/market fees. Charge a percentage of the purchase on every successful auction. If people have ten times as much money, then auctioned items will go for ten times as much thanks to supply/demand, and your money sink will pull ten times as much cash out of the economy. Since money sources are almost always constant, this can easily serve to keep a lid on the economy.
You do have to ensure that people buy and sell things regularly, however - trade skills and consumable items (including gear enchants and gems, in the WoW model) are necessary for this.
Currency sinks alone won't save you, even if you're not creating free money from resources. If your number of players changes, then the distribution of money will change also. And if you scale the money supply linearly to match the number of players, that does nothing for the inequality of wealth distribution (which will tend to get worse as the numbers rise) and it tends to ignore that your new players don't have an 'average' amount of money but in fact start off in relative poverty. It's incredibly hard to get right which is why the real world doesn't do a great job of it either, despite having a more closed economy.
In my view the best thing to prevent inflation is to avoid currency altogether. If your game design allows for a barter-based system, that can help, because it's typically harder for players to manipulate the flow of goods. (Someone who can carry 10,000 gold pieces can rarely carry 10,000 pigs worth 1 gold piece each.) A compromise is multiple currencies with unfavourable exchange rates, which coerce players into preferring goods over stashes of cash.
Add a money-sink that trades money for services such as temporary buffs, items, etc. The money disappears and afterwards (say a few minutes or a week), the service disappears.
Possible services can be:
Money sinks are the obvious answer, as you say. You can do this through incentives ("pay 1M gold for this cool new sword") or through regular losses ("your weapons and armor degrade over time, pay gold at the blacksmith to restore them").
You can also try to find core mechanics that don't involve infinite-spawn -> farm -> net increase in global wealth. Maybe the monsters are limited and can be over-farmed, for example, although of course that creates its own problems.
You can accept inflation as part of the game, understand the inflation curve, and modify your new-player experience accordingly (e.g. maybe you give new players a gift of Gold, untradeable of course, that is a percent of the total global wealth... so the more you have inflation, the more new players get to start off).
But mostly, this is an unsolved problem (in MMOs and in the real world).
I think one issue here is that minerals and actual currency are separate things. Anyway, one way to combat inflation would be to limit currency generation - in a real economy currency is created at a fixed rate, not when people earn it. Essentially, when you kill an NPC and steal their wallet you would be taking from the "pool" of NPC money. As the NPC money pool decreases, you get less and less money from killing NPCs and vice versa. This could inherently push the game towards PVP as it evolves.
As for "drops" and various bits of incredible loot, the same system can be applied. If you make most rewards based on increasing your characters skills or something, you can limit the amount of +7 sword of bats without causing too much of a problem.
Not mentioned yet are services as money sinks. So the player uses some of the inflated money to buy a service (like health boosts and speed increases), which is essentially intangible and at the end of the service period, value disappears from the economy. This helps to counter the feeling that the player is buying something pointless (such as vanity items) or the feeling of loss they get (such as when the items that they spent lots on get destroyed during PvP).
Ideally the services provided are ones which don't make it notably easier for the player to then farm more value. Imagine a buff service that increased the speed at which players could dig for currency, resulting in them adding more currency to the economy than is taken away through the price of the service. Net result: hyperinflation as the player can use the extra currency they received to buy more / higher levels of the services, resulting in more currency, etc.
Multiple currencies works for a lot of Facebook games. Consider Mafia Wars - when dollars were too inflated, they added "Cuba" which required an entirely separate currency. Then later Bangkok, etc. Also it's fairly standard in Facebook games to have a separate currency that you can only acquire large amounts of by paying real money. This way, the basic currency can inflate a lot without affecting the for-pay currency that much.
You do need money sinks, but you can also encourage people to keep the items they receive in circulation, instead of NPCing them. If the benefit of selling an item to an NPC is minimal in comparison to trading with another player, then the economy will be self-sustaining.
Requiring players to pay a fee (whether monetary or farming related) before being allowed to go on a quest/raid with high rewards can also help, along with the other general ideas of charging for services (transport, auctioning, repairing), or consumable items.
Don't prevent inflation. You can fairly easily measure how fast currency is changing hands. Track it, and have the game automatically adjust NPC prices and drops accordingly, with a slow moving average so that prices don't spike. Just use a Big Integer for quantity and you'll be fine.
I was going to write an answer, but it ballooned into a huge article, so I made it one in a blog to link to so as to avoid having its' hugeness here. Warning, it's really long.
It is possible to limit the speed at which new resources are added to the game. For example limit the number of gold a player can dig per day. A less obvious limit is to apply luck to random events. If a player has lots of karma it is likely that he gets drops, but the karma is used up and has to be renewed by doing quests.
The general problem is, game authors tend to make the economy in which advances players will create tremendous amount of gold and goods. The more the level, the more the energy. The more the perk, the more goods or gold for one point of energy. Isn't it?
Well, good, balanced game should be more like a life. More advanced players can do more advanced things than beginners, not 100x more things ad day. Gold doesn't grow on trees. There's no computer tradesman that will buy everything you produce or any skin you will hunt in forest.
Have you considered to allow player guildes to emit their own currency? They would have to adapt it's number to the number of players. When they emit too much, it would inflate and nobody would buy it.
Doing good economy is very difficult, hovewer.
One solution that i don't see mentioned here is that money simply "wears out": when the money is interacted with (used to pay for something, taken out of/put in storage, examined, etc.) it loses "health", then it can be "redeemed" for new money somewhere if it's not too worn. This is a form of money sink, but a nonobvious one (and really the most accurate, at least for paper/coin money)
Another idea. Figure out your max expected population for the world, and how much money would be reasonable for that population. Put that much money in the world, but have most of it be mineral that must be mined up and converted into coins.
Allow humanoid NPCs to set up mining and don't give out money for non-humanoid npcs when it doesn't make sense for them to have money anyway. You can allow a skinning system to get material out of npcs that don't give money that they could trade for money(doesn't have to be just skins, claws, teeth, poison glands, whatever valuable body part the animal might have).
If player growth outpaces NPC mining's generation of money currency will deflate and encourage players to set up their own mines(gold rush?) until you eventually reach your theoretical max and things get balanced out. When players close their accounts you could convert the money they had back into mineral wealth in a new vein or extending an old vein.
What I have not seen mentioned here is that inflation (and deflation) often result from changes in player spending habits.
Fixing the amount of money in existence, particularly on a per capita basis, is a start. But if players spend money like crazy, they'll inflate it. If they hoard it (or take a few weeks off from the game) they'll deflate it. If you have 5 gold coins in your game and a player earns fast and spends fast, he can go through the same 5 coins in one session, earning and spending 500 in a few hours. If he does nothing, that's the same as having zero coins in the game.
Fixing the money supply is not good enough. In the "real" world, gold works better than paper because governments cannot inflate it. But if people stop spending and start hoarding, the price of gold skyrockets. There's the same amount in existence there ever was, but there's none on the market. Paper money does not need to have this problem.
The only sure way to keep inflation and deflation under control is monitor your prices (however you measure them) and feed in more cash when they fall and and take it out when they rise, using the sources and sinks discussed elsewhere. This is a lot more complicated than, say, just fixing the money supply. Worse, inflation in a game is more perception than actual rising prices. ("It took me 6 months to save up for my first Dragon Bane Sword. Now I buy them by the dozen.") Perhaps measuring average player expenditure per week would track it. Be sure to do this by level. Otherwise the spending of your level 40 players would inspire such deflation as to destroy your level 1's. The idea would be took keep the level 1 (and 2 and 3) financial experience the same over the years.
Diablo II has "the cube" which allows you to combine certain items to produce a single item. While most of the recipes include low and middle level items, there are a few that require the super rare items like an SoJ.
Diablo II has also had world events where only a very limited few can get in on the action at a time. Specifically the uber Diablo event which requires players to sell SoJs to vendors (money sink) to trigger the event.
The real problem facing a game that uses items as currency between players is that if the game becomes to popular, you will have to fight duplication.
One OOB idea I've had is to create a much richer merchant experience - allowing for things like loyal customer discounts, research & development, et cetera. This allows such "money sinks" to become useful pieces of the game. For example the more money you spend at a merchant, the better stock they will keep. This can, of course, be expanded very easily which makes me think it to be a decent concept. (Just wish I had a game to implement it on)
Some games sell game content. I think DDO does this, but I'm not positive. Players purchase access to new areas of the game, things like transportation fees, but very similar in practice to the expansion pack model, where you buy whole dungeons or quest packs. Many games use real cash for that, but in-game currency works too.
Any time you have a money sink of some kind, take the time to balance it. Measure the game, figure out how much it actually costs players to obtain a resource, and try to make it cost about the same amount. For a dungeon encounter, compare the average cost per player to the average value of loot obtainable.
Urban Dead doesn't allow trading, doesn't allow storage and the player can only carry a limited number of items. This means the player can't horde items but has to continually search for them.
The problem here is an "infinite" supply of resources. That is, if a player needs cash he can farm monsters.
You can have money sinks and all sorts of creative ways to take money out of the system; but that isn't the issue, the issue is that the scale is unbalanced on the side of money coming in.
So you need to limit it. A few things you could do is only allow players to farm X amount of items/gold in Y time. Or have a decay function. That is, hour 1 a player could earn say 100 gold; but on hour 20 he could only earn 1 gold.
You could put a reset or timers or whatever. The point is to make it dismissing returns.
Another option would be a "tax" either based on level or net worth. So, at level 1 a health potion costs 1 gold; but at level 100 it costs 1000 gold!
Or for ever 100 gold you earn, you need to be X in taxes to the "king".
A third option is to fix the amount of resources. For every player that joins, inject a 100 gold (or the equal worth) into the system, but no more.
The main point is, you don't want infinite input with a fixed output. You need to align then by either A) fixing the input to a fixed amount of B) have the output in align (by percentage, not fixed amount) with the input.
User7032 said it right. The problem with EVERY SINGLE MMORPG -- is the INFLUX or INPUT of items/currency. I will collectively refer to this as "value."
Value, in most MMORPG's (referred to hereafter as "games") is ALWAYS available. Take old Everquest, you kill a bat, you get some items. These items are the bat's harvestables + some common currency. This can be done endlessly as the bats will continually respawn. Value enters the game in this fashion so long as people are still online to gather it.
Therefore, the answer to dealing with inflation/deflation -- should NOT be Value sinks. While Value sinks are important for ensuring a level of realism to your game, they should not be viewed as the sole means of removing excess Value. Games such as Fallensword.com tried to do this. It fails.
Instead, build the game in such a manner that players WANT to spend their Value.
Instead of allowing for an infinite amount of Value to enter the game, randomize the amounts that enter; and the location to where it enters. Subsequently require certain skills and levels of that skill in order for each player to even access the given resource.
Completely remove influxes of "currency" from Farmable sources. For example -- do not allow players to gain currency Value from killing monsters, instead only allow them to gain currency from selling the harvest to either A) players or B) NPCs though at a much lower value.
Introduce enough types of skills that even more advanced players will have need of other, possibly less-experienced players, to harvest all the necessary Value for whatever it is they want to have. If it takes three harvesting skills to gather the necessary Value to produce a powerful item -- the more experienced player will likely pay a newer, poorer player for one of those harvests instead of trying to do all three himself/herself.
Many of the techniques @beetlefeet is talking about in his answer (the top and accepted answer, at the time of writing) don't actually remove any money from the economy.
Eve Online blatantly has this through the mass destruction of items and ships through pvp (only partially replaced by insurance).
Money is not destroyed when you lose your ship, only your ship is destroyed. Your money got sent to the player who built the ship, who gave some money to the person who mined the minerals. When you lose a ship, money is injected into the economy through the insurance mechanic. EVE implements money sinks through station fees, market taxes, etc.
Many games (such as World of Warcraft) feature Bind on Pickup and Bind on Equip items. They are actually money sinks.
In most cases they aren't. In the case of World of Warcraft people typically sell their items to a vendor when they get an upgrade, which means the money is created and injected into the economy. If you can't sell items to vendors, then they could be money sinks if there are repair costs, but there aren't many games that do this.
It's important to remember that destroying items doesn't destroy currency. If anything, it makes the currency even more inflated since there are fewer items, making them worth more.
The general solution I've seen used is to put anything cool on a separate, untradable currency. You can also go whole-hog like Eve and have a real, deep economy to take care of it. Most MMO economies are just too simple to have things like supply and demand curves, but it is possible.
Increasing costs of training.
The more ability the player have, the more it costs to train another point.
Volume is key here, and I think people are forgetting how manipulable this factor is.
What about setting up a futures market? Even, one which is not completely closed? According to various sources (I cannot speak to their academic merit here, but I will cite one popular example: http://www.cnbc.com/id/102456187), crypto-currency's volatility in the real world is largely due to lack of a futures/options market. You could easily set this up in such a way that it allows limited designer control of prices...simply have some sort of partially-NPC driven financial sector. For instance, you could keep a library of historic prices of commodities after various types of world events, similar to what might occur in game, and simulate random, quick volatility followed by a correction to equilibrium. You wouldn't have to get the complicated stochastic calculus exactly right, as long as the equilibrium price is somewhat sensible and there exists a reasonable system ingame by which people who are crazy about that sort of thing can gamble on the market and make a profit sometimes.
This could be particularly interesting if you decide to go all out...you could have users buying up houses near the exchanges and rushing to work every day so they can beat the market. You could very well also make a whole elaborate NYSE-style trading floor. And then what if someone tries to attack the physical exchange? What if there is a stock market crash? Now that would be some MMO.
Implement Social Security ;)
I'm not entirely sure if this would work, however, I think a viable solution would to simply stop respawns. Once a monster is dead, it's dead. Allow npc entities to 'breed' in certain conditions, which will replace the dead. This system could very well allow entire species to go extinct.
Take the analogy further with food production - poor agricultural practices should yield a plot of land infertile for a long time. Drought, diseases, and locusts should all be real problems for food production.
Also, character death should be permanent. Players may choose to have children, while alive, and this will serve as a "respawn" in the event of their death, but the character must care for and be able to financially support his children while he is alive.
Through these base principles a truly functioning economy should blossom if it is given enough freedom. However, this style isn't really an option for most games, so take it with a grain of salt.
Just my two cents.