Wednesday, November 12, 2008

Inflation and Financiers

While reading Can Friedman's Money Rule Stabilize the Economy?, I read these paragraphs:

An increase in the money supply out of thin air sets in motion the so-called "counterfeit effect." It lays the foundation for nonproductive activities, which consume and add nothing to the pool of real funding or real wealth. These activities divert real funding from wealth generators, thus weakening their ability to grow the economy.

The diversion occurs once various individuals that are the early receivers of newly printed money are able to push the prices of goods higher. Wealth generators that didn't receive the newly printed money discover that they can now secure fewer goods than before.

Since the Federal Reserve makes money out of thin air by "buying" treasury securities from the central banks, the central banks are the first ones to receive the newly minted money. It seems that others in the finance industry would receive this new money relatively early compared to the rest of the country. So, to what extent does the counterfeit effect account for high wages in the finance industry? It would be interesting to see a study quantifying the size of this effect.

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