Don't Drink the Water!

Zhou Qiren 周其仁, Beijing University professor, brings us "Money Supply Taste Test: Water or Honey?"
We will call the first theory "currency is like water." The general idea is that currency has no use other than to act as an intermediary in commodity transactions. Therefore, excess currency in the economy and market will not increase the amount of goods in the market, but certainly will increase overall price levels.

Imagine a cash-laden helicopter flying over a small country and dropping enough currency on its citizenry to double everyone's cash stash. What follows? Will everyone in the country be able to afford twice as many goods? Or will prices double? If you choose the second option, congratulations; Milton Friedman, the great master of monetarism, would be proud. But why would a cash drop from a helicopter double everyone's money? Because money behaves like water: As soon as it enters the real world, it flows evenly into the open, offering equal access to all.

Another theory we will call "money is like honey." This theory holds that new money, after it's put into the economy and markets, sticks like honey. While flowing, it can accumulate in one area before gradually evening out. This means an oversupply of currency “roams” between different types of assets and goods, changing the relative prices of various assets and goods. This was the theory espoused by economist Friedrich August von Hayek, who emphasized that inflation has a "fluid equilibrium" quality.

Changes in relative prices create investment opportunities for some people. However, even if the market experiences "me-too-ism" and fanatical speculation, a single "hot spot" is hard to maintain. This is because honey continues to flow. The bumps eventually become smooth.

Each theory is interesting. What's important, though, is that from these theories we can infer an unambiguous thesis to test, with observable results.


The professor comes to the conclusion that its honey first, water later, which is what was observed in the 1970s and during every financial bubble financed with money printing. Right now, it appears that oil, commodities and equities are first to absorb the "monetary emissions" or "货币喷射". In the long-run, inflation seems inevitable, but Japan shows the long-run can be a long time. Given that the entire world is printing money, however, the process may commence a bit earlier.

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