ABSTRACT
This chapter shows that the Cantillon effect may also explain the formation of price bubbles (speculative bubbles on assets markets), i.e. situations in which asset prices deviate from their fundamental values. It analyzes channels through which the growth of money supply impacts asset prices. One of them is the inflow of new money to the asset market, i.e. a specific manifestation of the Cantillon effect. Indeed, the emergence of bubbles on the asset markets is the best proof that the prices of various goods and services in the economy do not increase evenly (like in Friedman’s helicopter model), but rather unevenly, as described by Cantillon. The chapter finds that such manifestation of the Cantillon effect leads to a different distribution of income and wealth, and to a greater extent threatens financial stability and may lead to a deeper recession, compared to credit expansion not accompanied by a speculative bubble. The chapter concludes that although asset prices play an important role in monetary transmission central banks pay too little attention to the inflation of asset prices, which may lead to monetary policy that is too loose, and to greater financial instability.
