The Cantillon Effect and Populism

by Heike Lehner

Monetary policy and everything concerning it has to be one of the most interesting topics out there. With monetary economics, there are quite a few interesting concepts which come with it. One is the so-called Cantillon effect.

Richard Cantillon was an economist in the 18th century who mainly wrote about money and how it circles around the economy.

The so-called Cantillon effect describes the uneven expansion of the amount of money. If a central bank pumps more money into the economy, the resulting increase in prices does not happen evenly. The Austrian economist Friedrich August von Hayek compared this monetary expansion with honey. If you pour honey into a cup, it won’t spread out evenly. It will clump in the middle of the cup first before spreading out.

Same with money: in case of a monetary expansion, the ones who profit from it are the ones who are close to the money. “Close to the money” in this case means everyone who can access the money right at the beginning, i.e. big companies, banks, etc. They get loans and make investments. Prices then start to rise even though the rest of the population has not received any of the new money yet. This part of the population usually is not the one with too much money. Nonetheless, they have to pay the higher prices even though they have not profited from the increase in money at all. And they will never profit from it in the same way as the ones who received the money first. The result is a redistribution from the poor to the rich.

Central banks which try to control the amount of money in the economy are the reason for this redistribution of money. Even John Maynard Keynes who was in no way opposed to government intervention and central banks accepted the Cantillon effect as a valid problem.

But why is this effect so crucial?

Well, the reason is that this phenomenon has been completely ignored by groups and parties on the left. Newspapers are full of populist campaigns advocating for higher taxes for the rich, and redistribution from the rich to the poor. All of that despite the fact that the concept of central banks was advocated by Karl Marx in his Communist Manifesto. Central banks have been one of the main institutions established by the left in the last two centuries. Nowadays, central banks are a given, almost nobody questions them. Inflation would also exist without central banks, but it would definitely be not as high.

What is most bothersome is that central banks as socialist institutions cause an enormous amount of redistribution from the poor to the rich on the one hand, but on the other hand the left blames capitalism and demands higher taxes for the rich. Since nobody really thinks about the effects of central banks and takes them as a given, leftist groups thus are thought of as “social,” and “thinking about the poor.” However, their demands are the root of these problems. They try to balance out their regressive tax caused by the central banks with a progressive one. Of course, the Cantillon Effect is not the only problem, but it is a problem which should not be ignored entirely.

All in all, this effect causes other problems which we probably wouldn’t have without central banks. And as usual, government causes problems which wouldn’t happen without its interference.

Heike Lehner is an International Business student from Vienna and holds a Bachelor’s degree in Economics.

Find the German version here: oeconomiarationalis


The views expressed on austriancenter.com are not necessarily those of the Austrian Economics Center.

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