The aggregate amount of money and credit in the global economy has risen sharply over the past 30 years, with its growth rate and stock far exceeding that of the real economy or real assets of the world. This is the view of Xiang Songzuo, professor at the Huazhong University of Science and Technology, whose opinion was first published in a recent article in China Business News. Xiang said this situation is a real threat to the world economy. Excerpts of his article is reprinted below:

The past 30 years have seen a widening gap between the real and fictitious economy. A major cause of the worrying phenomenon is that international monetary management has turned out to be an unrestricted and inflexible system without an anchor currency. The issuance of the U.S. dollar, the world's foremost reserve currency, is beyond control, giving rise to excess liquidity in the world market.

The floating exchange rate management widely adopted in major economies worldwide adds to the already severe financial turmoil. This is because floating currencies have not only resulted in mammoth volumes of foreign currency speculative transactions and financial derivative trades, but also forced central banks around the world to stockpile huge amounts of dollar-denominated assets for fear of possible currency fluctuations.

Besides creating asset price bubbles, excess global liquidity also constitutes a big challenge to asset liability management by financial institutions around the world. To maximize profits on their expanding assets, these institutions have tried every possible means to be more innovative in their financial operations, in the hopes of higher returns, despite possible risks. More importantly, though risks can sometimes be averted, they will never be totally eliminated. The aftermath of financial innovation includes a stretched debt chain and growing risks out of the power of regulators. The recent subprime crisis can be seen as an example of this.

The oversupply of liquidity and consequent rampant flows of "hot money" in the world market have also enabled countries with strong currencies and individuals and institutions that dominate the creation of financial mechanisms to easily snatch resources, land, enterprises or factories of other areas and nations. As a result, the rich-poor divide has notably broadened, both worldwide and in individual countries.

Theoretically, when asset prices balloon, or the growth of the fictitious economy outpaces that of the real economy, market forces, if totally free from government intervention, will simultaneously intensify inflation and push up the nominal interest rate. But in the past 30 years, only the 1970s demonstrated the above-mentioned symptoms when the stagflation occurred. (Stagflation is when high inflation and high unemployment (stagnation) occur simultaneously). A tame inflation was a feature of the following 20-plus years, with a declining nominal interest rate.

The theoretical failure should be first attributed to the fact that constant increases in prices of assets, such as securities, housing and non-renewable resources of oil and minerals, ingest most of the increase of money and credit supply. Though the upward trends vary remarkably in asset markets of different countries, the aggregate amount of the global fictitious economy as a whole has skyrocketed. In other words, the soaring supply of money and credit target mainly financial assets, instead of consumer commodities. So the pace of consumer price acceleration has remained slow. Currently, countries throughout the world all use the consumer price index as a benchmark measurement of inflation, but the index usually excludes prices of housing and other assets. In some cases, prices of education and health care are not considered.

The steadiness of low consumer prices in the world also testifies to the unique contribution of China to the world economy, which topped the list of economies that saw a faster growth of their real economy than that of their fictitious economy in 20 years, until the situation reversed in 2005. China's continually expanding exports to the United States, EU and Japan is one of the engines shoring up the world's real economy, and it prevents consumer prices worldwide from rising. Simply put, it is the rapid growth of China's exports that eases the inflationary pressure from increasing money and credit supplies globally.

But China cannot supply cheap consumer commodities indefinitely. The rise in China's labor costs, in the form of salary increases, is inevitable and reasonable. Efforts to curb pollution are also expected to drive up export prices or slow down the development of processing trade. No other country is likely to take over China's role in preventing international consumer prices from hiking.

In addition, China's import surges will also lift international price levels. The surges can be ignited by the wealth effect of heady gains in asset prices, consumption and investment demands arising from the growth of the real economy and expectations on constant revaluation of the Chinese currency.