The Impact of Increasing Money Supply on Income Inequality

Introduction

The relationship between increasing money supply and income inequality has been a subject of much debate in economics. Historically, central banks have often relied on increasing the money supply to stimulate economic activity and fend off economic downturns. However, the outcomes of such policies can be mixed and may exacerbate income disparities. This article explores how an increase in money supply can contribute to income inequality and provides relevant examples from real-world economic policies.

Theoretical Perspective

A simplistic economic model suggests that increasing the money supply should lead to inflation and consequently dilute the value of the wealth held by the wealthy. In this model, the increased money supply would lead to higher prices for goods and services, thereby eroding the purchasing power of the wealthy. However, as we shall see, this model is often inaccurate in practice.

Empirical Evidence

Automation and Real Wages

One key factor contributing to rising inequality is automation. Over the past few decades, advances in technology have led to an increase in automation, particularly in manufacturing and service sectors. This has resulted in stagnant real wages for many workers, as the demand for labor has declined. With real wages not increasing, additional income that comes into the system is often exhausted by rising costs in areas such as housing, education, healthcare, and retirement.

Asset Inflation and Wealth Disparity

The impact of increasing money supply on income inequality is also evident in the rising prices of financial assets. Financial assets, such as stocks and real property, are often concentrated in the hands of the wealthy. When the money supply increases, the demand for these assets rises, driving up their prices. Consequently, the value of these financial assets disproportionately benefits the wealthy, leading to an increase in income inequality.

For example, Jeff Bezos, Bill Gates, and Warren Buffett have built their fortunes largely through the financial markets. The increase in money supply has led to a bidding-up of prices for high-value assets, which the wealthy can afford to buy. On the other hand, the bottom 80% of the population owns only 6.7% of these financial assets, meaning they do not benefit from the value appreciation.

Widening Gap Through Inflation and Asset Prices

In a rational model, the increase in money supply should lead to inflation, thereby diluting the value of money. However, in reality, the effects of inflation and asset prices can be uneven. For instance, the prices of goods that can be shipped on container ships (like electronic gadgets) or commodities (like oil) often remain stable or even decrease due to the oversupply. However, items that are limited in supply, such as high-end real estate, specialized education, and healthcare services, often see strong inflationary pressure as more money chases after these limited goods.

Policy Failures and Economic Misalignment

A prime example of misaligned monetary policy can be seen in the aftermath of the 2008 financial crisis. While infrastructure spending and the building of moderate-cost housing could have helped generate genuine economic growth and reduce inequality, the political divide, particularly in the USA, resulted in limited public spending on such initiatives. Instead, the Federal Reserve focused on quantitative easing, which primarily benefited large money center banks.

Ben Bernanke, the then-head of the Federal Reserve, testified before Congress that such spending would provide more economic benefits by putting money in the hands of the working middle class. Unfortunately, these policies instead accelerated income inequality because the additional money supply was largely misappropriated to the very wealthy.

Conclusion

In summary, while increasing the money supply can serve as a tool to stimulate economic growth, its impact on income inequality can be significant and often unfavorable. The misallocation of the money supply, particularly to the wealthy through asset appreciation, exacerbates existing economic disparities. To mitigate these effects, policymakers must ensure that additional monetary resources reach the broader population, thereby fostering more equitable economic growth.