Will Cryptocurrency Solve The Cantillon Effect?
We do not see things discussed within the framework of this theory too often. However, it is very applicable to what is taking place. When we look at the distribution mechanism of money today, we see there is a major problem. The situation over the last 20 months with regards to government action pertaining to the stimulus magnifies the problem.
We all know the saying "the rich get richer". But why is this? How come it exists and is there a way to alter it? In fact, can cryptocurrency be the solution to the problem?
In this article we will explore this idea.
The Cantillon Effect
This was an observation made in the 18th century by a French economist named Richard Cantillon. He was looking at the relative prices to new money along with how the distribution of said funds impacted people in society.
One of the most potent aspects to the Cantillon Effect was how new money favored the early recipients as opposed to those who received it via "trickle down". Keep in mind, this was the observation a few hundred years ago, a situation that still appears to hold true today.
The response to the COVID lockdowns was for governments to engage in a lot of stimulus. Here we possibly saw the Cantillon Effect in action. While countries like the United States did some direct stimulus (perhaps $400B), the overwhelming majority when to the banking and financial system (a couple trillion).
We saw this play out on a public stage. The net worth of the wealthiest people skyrocketed. Essentially, the richest people in the United States (and many other countries) saw their worth jump by trillions of dollars.
Contrast this with the average person. In the U.S., there were a couple thousand dollars distributed in stimulus along with things such as extended unemployment benefits. That is what the masses received. Naturally, there was a lot of blowback about people getting $1,200 a month in extended unemployment. Few focused upon the trillions that went to the upper end.
The only hope, which is more like a prayer, is that some of this money will make it down to the general public. History shows this is not the case. In fact, Cantillon's work highlights how this will not occur. The tickle down effect, if there is any, is of minimal impact.
How New Money Is Created
We live in a system that is credit based. New money is created by the commercial banking system. When banks lend, the number of USD, as an example, expands. Thus, those who are deemed credit worthy end up with access to the resources.
Over the last few years, we saw the lending to small businesses collapse. This is no surprise considering they have the least amount of assets to post as collateral. At the same time, individual entrepreneurs and innovators are shut out. Unless one is able to capture the attention of some Venture Capitalist, the idea will be shelved.
Those who are extended credit are able to leverage their ability to produce. It is an advantage that many can take advantage of. When we look at the actions of major corporations, they often take utilize low interest rates by borrowing, even when they have the cash on hand. This enables them, at a minimum, to make a greater return on their cash holdings as compared to what they are paying on the loan. Often, they are able to also generate a greater return on the money loaned, thus compounding the impact when coupled with the increase in value of their original cash position.
To give an example, let's say a company is looking to invest $100 million. The company has the cash on head yet takes out a loan for 3%. With the cash, they are able to generate a 5% return, putting them 2% ahead.
However, there is still the $100 million that was loaned out. If that project yields another 5%, this means the total impact is a 7% return (10%-3%).
We can see how this is a different situation that most deal with. Individuals, if they get any credit, it might be for a home or car loan. The later is nothing more than a payment system on a depreciating asset. While the former can result in appreciation, when market fluctuations along with maintenance costs are tallied up, few end up making much money at all.
Going back to the example, if this $100 million investment was made by a private company, the financial benefits goes to one or two individuals. The owners of the entity find the results in their wallets.
Now the question is how much of that money finds it way into the hands of average individuals? Once again, history shows very little. People at the upper spent less of a percentage of their income as compared to the lower classes on necessities. Hence, in addition to luxuries, they also have more for investing.
And thus we see the effect Cantillon focused upon.
Does Cryptocurrency Fix This?
Cryptocurrency offers the opportunity to change many different aspects of our financial and economic world. One of the major shifts is the fact we have a completely new distribution system.
New money is not created by a bank. Instead, it is coded into a blockchain and issued as per the rules for the system. In the Proof-of-Work model, it goes to the miners who are validating the blocks.
Of course, we know there is more than one model. At the same time, contained in each are a multitude of blockchains and projects. We see tokens appearing everywhere.
This shows us how there are two forms of "new money".
First, we have the individual tokens that are minted by the system. This is new in that they did not exist before. They are distributed directly to a wallet that is owned by an individual or entity. No bank is involved in the process at all.
The second way we see this process play out is with the development of new projects or blockchains. Each time something new is formed, there is a genesis block where the first token is distributed.
Think back to Cantillon of how new money favored the early recipients. Here we have two ways where new money is ending up in the hands of individuals. Throughout the entire cryptocurrency realm, we are seeing this happening on a daily basis.
Cryptocurrency is not looking to alter the Cantillon Effect. In fact, it is embracing it as a valid concept. Instead, we are seeing the formation of new money on a regular basis being passed out to individuals.
Ultimately, this will generate more wealth since those who get the new money are impacted to a greater degree as compared to those on the trickle down basis. Since we have the opportunity to do this with billions of people, spread over hundreds of thousands of tokens, we can see how a new system is emerging.
Thus, it appears cryptocurrency does not solve the Cantillon Effect but is simply more inclusive.
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