Jan 7

Letter #75: Inflation and a Tale of Cantillionaires

Read now to learn how inflation is the opposite of fair, no matter which side of the equation you may be on.

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Dear Readers,

People want to build life-changing wealth. But the definition of “life-changing” is different from person to person. For some it can mean financial independence. For others it may mean attaining and maintaining a certain lifestyle. And for others still it may mean escaping debilitating poverty.

Whatever one’s idea of life-changing wealth may be, the primary way to achieve it has usually been through the production of goods or services that are highly desired by a large number of people. Stock markets around the globe are full of companies that produce millions or even billions in revenue by giving people what they want. And I’m sure we’ve all heard stories about small-time entrepreneurs who pulled themselves up by their bootstraps in the pursuit of their dreams. Feel-good stories like those lead many people to believe that the creation of wealth is just around the corner for those who are courageous enough to take their first step.

My intent in today’s issue is not to crush dreams, because it certainly is still possible for hard-working people to break the proverbial mold when the conditions are right. My goal in this discussion is to highlight another method of wealth creation that has subtly existed over the millennia but has gone into hyperdrive over the past several decades. A method of creating wealth that takes it from the productive members of society (i.e., most of us) and gives it to those who produce little, but who benefit by associating with the politicians who control economies and people. Today we’re talking about inflation and the Cantillon effect.

The Many Flavors of Inflation

Unfortunately, inflation is something that even more of us are familiar with than usual thanks to government spending associated with the COVID pandemic. Inflation is typically defined in several different ways, depending on who you ask:

  • An increase in the money supply

  • A decrease in purchasing power

  • An increase in prices of goods and services.

The truth is that inflation is all of the above. But most importantly, inflation is bad, at least for most people. When the supply of money goes up, the prices of goods, services, and assets will eventually increase as well. After all, bringing money into existence doesn’t automatically create more things that you can buy with it. Instead, increasing the money supply simply drives greater demand to consume the same supply of items that existed before. As economics tells us, when demand increases relative to supply, prices must go up. When prices go up, the real value of your money, or in other words, its purchasing power, goes down.

To the average person, it may seem like inflation impacts everyone rather equally. At the end of the day, if the cost of a loaf of bread or of a new car goes up by 10%, it goes up for everyone, right? Not exactly, because inflation doesn’t impact all goods and services by the same amount, nor does it impact them all at the same time. Inflation tends to permeate throughout an economy at different times for different goods, and scarce items like art and Bitcoin tend to increase in price much more than easy-to-produce items like the aforementioned loaf of bread. This staggered approach to inflation is what generates massive wealth for some by stealing wealth from everyone else.

The Cantillon Effect, aka Proximity to the Money Printer

In a perfect world, there would be no inflation of the money supply. But existing inflation could at least seem more fair if the increase in the money supply were evenly distributed among the population in direct proportion to the percentage of the money supply that each person owned before. In such a world, prices would still increase nominally, but real prices would more or less stay the same since no one's wealth was diluted.

Unfortunately, we don’t live in a world without inflation or even have fair inflation. New money isn’t evenly distributed to everyone. Instead, most of it is given to those who are closest to the “money printer”, or source of the new money. Since governments control the money printers, they are obviously the biggest beneficiaries. You don’t have to look much further than the massive salaries commanded by elected politicians, the opulence of government buildings, or the budgets directed towards militaries to see that. But it doesn’t stop there. New money goes next to the companies, organizations, and individuals with connections to those in power within the government; connections that they’ve often developed thanks to massive amounts of self-interested lobbying.

When bureaucrats and their well-connected cronies get “free” money, they don’t use it to buy bread. They use it to purchase luxury goods and society’s most productive resources, typically businesses that they purchase in the form of corporate stocks. Eventually the increase in the money supply trickles down to everyday participants in the form of wages. Those wage workers can then compete with one another for goods, services, and assets. Of course, by that point, all of the best items have already been purchased by those who were closest to the money printer. Everyone else is left with just the scraps. This accrual of wealth and productivity to the rich and powerful at the expense of the public is what’s known as the Cantillon effect.

Head for the Exit

If what I’ve described above seems terrible to you, you’re right. It’s human nature to use one’s position of power in self-serving ways. So it would be naive to assume that governments and corporations won’t use their power to benefit themselves, even when that behavior harms the rest of us.

The solution? Move to a system where no one has any power of which to take advantage. Bitcoin is that system. It’s open to everyone, has no money printer, and can’t be controlled by any centralized party.

I’ll see you there.

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