Inflation: How The Cantillon Effect Is Ruining Us

The mass distribution is planning a price increase in food, reports Le Figaro. Michel-Edouard Leclerc, president of the hypermarket group of the same name, expects "a hell of a price increase this month". This should not come as a surprise. This was foreseen by one of the few economic theories that works: the Cantillon effect.

Richard Cantillon (1680-1734) was a financier and economist of Irish origin who made his fortune in France by anticipating the collapse of the system of John Law (the inventor of paper money). He looks at the great inflation of the 16th century, caused by the influx of gold from the conquest of the New World. He explains, and this is the interest of his analysis, that the increase in prices was not uniform, but came in waves. The influx of gold, considerable for the time, went to King Philip II of Spain, who spent it mainly on armaments, in particular to build the "Invincible Armada", supposed to stand up to the English navy. This influx of orders caused a rise in prices in the armament sector, thus increasing the wealth of manufacturers, then, at a lower level, in suppliers (wood, iron), and so on, down to the agricultural sector, at the bottom of the ladder. The farmer who wants to buy boards and nails to repair his cart sees a rise in prices, without having been able to increase his own. So he loses out. When agricultural prices finally rise, the rise in prices in the arms industry and other sectors resumes with a vengeance, due to the continuous arrival of precious metals. The price structure is thus continuously distorted to the benefit of those who are close to gold and to the detriment of those who are far from it. The wealth of the former increases while that of the latter decreases. This is the Cantillon effect.

What does this have to do with what is happening today? We see the same phenomenon. This time, the source of wealth does not come from the gold of the Incas, but from central banks. In the United States, Japan and Europe, they have decided, since the crisis of 2008, to lower their key rates to about 0% and to carry out a policy of Quantitative Easing, consisting of acquiring large quantities of government bonds to facilitate the financing of the budget deficit, the volume of which has exploded with the Covid crisis. This deluge of money benefits banks and the financial sector in general (its size in relation to GDP continues to grow), its investments (shares, bonds), and the sectors financed by banks (real estate).

Inflation has been present for a long time in assets (real estate, stocks), but now the latest wave of the Cantillon effect is arriving with the rise in prices of everyday consumer goods (energy, food, durable goods). Producers of commodities (an asset that is permanently sold, unlike real estate and stocks which are an investment), fearing a loss of purchasing power when they see the central banks printing money, decide to increase their prices, and inflation becomes widespread.

Inflation is not uniform, it works in waves, this is the teaching of Richard Cantillon. This implies a deformation of the price structure. This deformation does not depend on real conditions but on a monetary phenomenon. The information transmitted by prices is therefore erroneous, which generates mini-bubbles (gas prices), shortages (semiconductors), and a whole host of malfunctions that are detrimental to the economy.

"Inflation is transitory", say the central banks, but nothing could be further from the truth as they feed this money flow with their money printing machines! They are the problem. We are not done with inflation and the damage it causes.