The Cantilon Effect, hyperinflation and how to get rich from it

It’s a Sunday morning of January 2030. Your lovely wife has just asked you to go and buy a loaf of bread and bottle of milk, so she can enjoy a rich and pleasant breakfast.

So, even though you are quite annoyed you put on your shoes and walk down to the local grocery store. You grab the milk and bread, go to the counter, wait for the shop clerk to scan the items and then your jaw drops as he tells you the bill, it is $1,248.

“$1,248 for some milk and bread, is he joking?!” You may well be asking yourself, and in this case yes, he was. However, it is a fun example to introduce a serious little macroeconomic concept that I am sure you are all familiar with, it’s called inflation, simply put an increase in prices and fall in purchasing value of money. In the above example, we have an extreme case known as hyper inflation. Hyper inflation is when you have an inflation rate of 50% or higher for a period of a month or more.

Inflation has been getting worst since the creation of the Federal Reserve, the gradual move away from the gold standard in the 30s and Nixon abandoned it completely in 1971. What this means, is that your money is no longer backed by the price of gold and it’s the Fed who decides how much of it to print and how much it’s ultimately worth. A quick glance at the graph below tells you all you need to know, the rules of money have changed, and in today’s economy, savers are losers.

We can see this from the stock market at the moment, the economy is in shambles while the stock market has reached an all time high, but please don’t fall for it. This growth isn’t based on fundamentals, it is just an artificially inflated asset bubble.

We are not talking about conspiracy theories here, this is what is happening. You can draw your own conclusion as to whether they are intentionally abusing their power or not. The fact is, that the worse it gets, the more money the government prints, and the richer certain individuals on the inside become, while we, on the outside, pay the price.

So, why aren’t we already feeling the effect of inflation? It’s probably because even though industrial outputs have declined drastically, due to the Covid restrictions, so has the demand of goods due to financial insecurity. Lots of people have either lost their job or are afraid they are going to lose it, making them spend less. This has a deflationary effect on the economy.

There’s no getting around it, introducing this much money, this quickly has had a upwards pressure on inflation but it has been counteracted by the downward pressure of unemployment and the fall in demand. We are living in a fragile equilibrium.

Eventually when all restrictions are lifted, unemployment falls and demand goes back up, we are going to have pay for the printers madness with higher taxes and inflation. Most likely, lots of it.

It’s not fair, it’s not good and it won’t be easy. But somehow we have to deal with it.

Don’t keep cash under the mattress (or in a bank). Inflation will eat it up, with interest rates this low, your money is already losing value as we speak.

It could get even worse if the Federal Reserve goes with negative interest rates and inflation rises substantially. Your 50 thousand in savings may be barely enough to buy Christmas presents for your family 5 years down the line.

Since the beginning of 2020 the US government has slashed interest rates to 1% and has added 20 trillion dollars to its money supply, that’s more than a 20% increase in the amount of money in the economy. The government has also pumped almost 4 trillion dollars into it via stimulus and other Covid related spending, which comes close to doubling the amount of cash in active circulation, ‘in circulation’ meaning the money that is out there being spent.

This was done in an attempt to keep the economy from collapsing after months of pandemic lockdown. But let’s take a closer look at what has happened since the Federal Reserve went crazy with the “money printer” in early 2020.

The government’s monetary and fiscal policies has produced something known in macroeconomics as the Cantillon Effect. Discovered by an 18th century economist called Richard Cantillon “The Cantillon Effect refers to the change in relative prices resulting from a change in money supply. The change in relative prices occurs because the change in money supply has a specific injection point and therefore a specific flow path through the economy” as defined by the American Institute of Economic Research.

In simple terms this means that when the government prints money and puts it out in form of a stimulus, it will not go to everybody equally, it will always be of more benefit to the individuals and corporations who are “friendly” with the central bank. They will invest it in real assets, which results in a skyrocketing of prices. Remember the 4 trillion in stimulus and other Covid related spending? Well, more than half of it, 2.3 trillion to be more precise, went to businesses, with only roughly one fifth of it, 884 billion, going to workers and families. Who do you think benefited the most? Not the average Joe, but corporations like Wells Fargo, AT&T and Carnival Cruise too name a few, disproportionally. The companies who are benefitting from the handouts, tax breaks and loans are using them among other things to fund buybacks of shares which inflates their price, and allows them to make a fat profit when selling them at peak prices to the poor devils willing to buy them. This is legal, government backed, insider trading.

But luckily, all is not lost. There’s a solution. Hedge, hedge and hedge. Invest in real assets that will protect you from inflation.

Here it all comes down to risk tolerance. The conservative approach would have you choose something like a 60/40 bond-stock portfolio, REITs, Bloomberg Barclays Aggregate Bond Index or an S&P 500 index fund, these investments would hopefully protect your savings, maybe even with some return, if the inflation rate doesn’t get too high. Unfortunately in the eventuality of an extended period of hyperinflation you can wave bye-bye to your savings, the yield just won’t be high enough to protect them.

If on the other hand you just don’t like being conservative with your investments and as the title promises you dream of riches. Gold may be a good investment in the eventuality of high inflation, with loss of trust in government currency the price could increase dramatically.

The same could be said of bitcoin. The days of FIAT currencies and the centralized banking system may be numbered. In the event of severe inflation you can be certain more people will start using it, resulting in the skyrocketing of its price. Will it be enough to make central banks obsolete? Maybe, but that’s a topic for another time.

The future is looking grim. Lots of good, hard-working, honest people may suffer. Stay vigilant, protect your earnings and keep a close eye on the economy over the next months and years. Hard times could be ahead, so hedge, hedge, hedge.

Disclaimer: The Content is an opinion and is for information purposes only. It is not intended to be investment or financial advice nor does it constitute an offer to buy or sell or a solicitation of an offer to buy or sell shares or any other assets. Seek a duly licensed professional for investment or financial advice.