The Cantillon Effect

The Cantillon effect is named after Richard Cantillon who's the first person to have pointed out that an increase in the money supply has an uneven effect on prices. When money is created through credit expansion or otherwise, the effect on prices is determined by who receives the fresh money.

It's this effect that drives the current wealth divide. People closely associated with central banks get to spend fresh money before everybody else. They define the direction of price movements. Favoured asset classes go up in price, while other things remain steady or go down in price.

With the Cantillon effect becoming evermore relevant, I decided to read the book in which this effect is described. What I found was a well written primer in general economic theory, but with hardly any mention of the famous effect. Richard Cantillon makes no big point out of it. He merely demonstrates that prices are determined by the desires of the ones with money. If they desire some things over other things, things in favour will go up in price more than the less favoured things.

In the last three chapters of the book, Richard Cantillon gives more detail to the effect, adding that credit expansion greatly advantage those who have close relations to central banks. On this point, he speaks from personal experience. He became immensely rich by front running the Mississippi bubble, both going up and going down. But he never mentions this specifically. His entire book is written in an objective language, with very little references to himself. Only on very specific points does he get personal. He mentions Isaac Newton, with whom he corresponded over a disagreement on monetary policy.

Clearly less than impressed by Newton's understanding of economics, Richard seems to rub in his insult of Newton by describing an un-named dupe who looses a fortune in the South Sea bubble. The dupe, who first makes a nice little profit from the hype, re-enters the market at the very top, shortly before the crash. This is exactly what happened to Isaac Newton.

The book is entertaining for several other reasons too. Not least his vivid description of 18th century entrepreneurship. My only problem with the book is that he does at time complicate things by bringing too many calculations into the story. But such is the mind of a banker, I guess. Always calculating the true cost of things. Apart from that, the book is well written, and surprisingly current in many of the topics it brings up.

By Ludwig von Mises Institute - Ludwig von Mises Institute Cantillon, Richard (2010) An Essay on Economic Theory, Auburn: Ludwig von Mises Institute ISBN: 0-415-07577-7., CC BY 3.0, Link