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By Robert A. Vella – July 21st 2023

When the COVID-19 pandemic struck hard in January 2020, the world economy was forced to shut down most nonessential goods and services.  Out of legitimate caution, people isolated themselves at home while governments enacted lockdowns and other restrictive measures.  The global supply chain ground to a halt, and many product shortages made life more difficult for overstressed consumers.  A year later, Congress passed and President Joe Biden signed into law the $1.9 billion American Rescue Plan Act of 2021 which provided the necessary funds to keep American families afloat while also jumpstarting the economy.  It worked.  As the COVID danger subsided, the world economy recovered at a remarkably rapid pace (especially in the U.S.).  By early 2022, it was evident that prices were on the rise.  Inflation peaked at 9.1% in June of that year and has been falling ever since (see:  12-month percentage change, Consumer Price Index, selected categories).  In June 2023, it had dropped to 3.0%.

Before addressing why prices rose to such disturbing levels in this case, it is important to understand the basic dynamics of inflation.

INFLATION 101

There are 3 basic drivers of inflation:

  1. SUPPLY SHORTAGE: When the supply of goods and services is limited (for whatever reason, and there are many), consumer demand increases which drives up prices.  The best example of this was the so-called “stagflation” of the 1970s which was sparked by an oil embargo waged against the U.S. by Middle East oil producers (in retaliation for America’s support of Israel).  With its primary energy source largely cutoff, U.S. economic production slowed dramatically which caused painful rises in inflation and then in unemployment (see:  Stagflation and the oil crisis).
  2. DEMAND SURPLUS: When the economy is booming (again, for whatever reason), jobs are widely available (normally) and people typically have a higher proportion of discretionary income.  They will spend this income which creates additional demand for various goods and services and creates the opportunity for businesses to increase profits by raising prices (see:  What Is Demand-Pull Inflation?).  If prices rise above what consumers are willing to pay, demand drops which tends to force prices back down.  This dynamic fluctuates only marginally and hypothetical claims of a wild “wage-price spiral” are exaggerations at best and pure mythology at worst (see:  Wage-Price Spirals: What is the Historical Evidence?).  However, this cycle does produce some inflation temporarily.
  3. MONETARY POLICY: Governmental and quasi-governmental agencies (i.e. central banks such as the Federal Reserve in the U.S.) can raise or lower key interest rates (e.g. the federal funds rate in the U.S.) to either retard or stimulate economic activity.  Higher interest rates lessen inflation by slowing the economy, and lower interest rates boost the economy by creating an incentive to borrow money.  In contrast to the supply and demand stimuli described above, monetary policy is a reactionary mechanism.

Those three basic drivers of inflation worked predictably (for the most part) within traditional capitalistic systems.  By that, I mean broad-based economies having roughly equal proportions of large corporations, smaller independent businesses, and labor.  The wealthiest people – with their great access to financing, legal counsel, and politicians – are best able to initiate big ventures which can expand the economy and benefit the society overall (e.g. public/private infrastructure projects).  Small middle class businesses were the domain of individual owners, partnerships, and family-run operations which provided everyday goods and services to local communities (e.g. grocery stores, restaurants, dry cleaners, etc.).  The working class provided skilled and unskilled labor to all employers many of which were organized into collective bargaining guilds and unions.  In a truly free market where competition tends to keep these three economic divisions in balance, such capitalistic systems function quite stably.  However, the system breaks down when one division acquires too much power (e.g. the Wall Street Crash of 1929 and the Financial Crisis of 2007-2008).

When neoliberalism spread across the world beginning in the 1980s (under the political leadership of U.K. Prime Minister Margaret Thatcher and U.S. President Ronald Reagan), that system became increasingly imbalanced as the corporate class captured practical control over national and local governments (i.e. corporatism).  First, collective bargaining was suppressed which stripped workers of their rights and strength.  Then, governments deregulated various industries which allowed corporations to consolidate and systematically eliminate huge swaths of small business through buyouts, hostile takeovers, and other brute-force tactics.  Millions of U.S. manufacturing jobs were lost to China and other low wage countries, and consumers were deprived of their competitive choices as well as their ability to seek legal redress from negligent or unscrupulous sellers and providers.  This transformation to a service-based economy created a massive disparity of wealth and socioeconomic power between the very privileged few at the top of social hierarchy and everyone else;  and, that directly precipitated the intense cultural and political polarization now afflicting many western democracies (e.g. the violent January 6th 2021 insurrectionist attack on the U.S. Capitol).

When COVID forced the economy to shut down, ordinary people were compelled to curtail discretionary spending and hold onto as much of their cash reserves as possible because no one could be certain how long the pandemic would last.  Shored-up by government efforts to avoid a catastrophic economic collapse, the U.S. savings rate jumped up by a whopping 24%.  From:  Personal savings as a percentage of disposable income in the United States from December 2015 to April 2023

Corporations, empowered by their ongoing neoliberal conquest of consumers and workers, saw a huge profiteering opportunity to seize those savings.  By the summer of 2022, the U.S. savings rate jump had not only been completely erased but had also been further reduced below the pre-pandemic level by nearly 6%;  and, at the same time, U.S. corporate profits rose to new heights.  From:  Corporate profits in the United States from 2000 to 2021

To better visualize this opportunistic corporate move against workers and consumers, the following graph shows U.S. wage growth compared to the U.S. inflation rate.  From:  Difference between the inflation rate and growth of wages in the United States from January 2020 to June 2023

As you can see, from April 2021 (one month after President Biden’s stimulus plan was signed into law) to February 2023 (when the Federal Reserve’s interest rate hikes took full effect) higher consumer prices far outstripped the modest +/-3% growth in workers’ wages.  Now, the Fed’s actions to slow the economy are causing both rates to fall which could result in an economic recession with significant job losses.

It should be noted here that the Federal Reserve asserts that the only tool it has to fight inflation is to increase interest rates.  That is technically true in the most strictest sense, but it is also true that the federal government has a wide array of tools to address all types of economic problems.  The post-pandemic inflation could have been controlled by various legislative and executive actions (e.g. price controls which have been employed many times before) to combat profiteering, but instead the federal government deferred to the Federal Reserve.  Why?  It seems nonsensical to risk an economic recession just to lower inflation especially when the primary driver of higher consumer prices is corporate greed.  It also makes me wonder who is really running this country.  An economic “solution” which hurts workers and consumers under any consequential result, while the perpetrating corporate class gets off scot-free, reveals the underlying intent of its planners.

Some readers might counter with arguments insisting that the post-pandemic inflation was simply the result of normal market-driven processes and that there was no corrupt intent by the corporate class;  however, they would be mistaken.  Many corporate executives openly bragged about what they had deliberately done.  From (clarification and emphasis by me):  Economist explains record corporate profits despite rising inflation

[NPR’s MICHEL] MARTIN: So we see the price of pretty much everything going up, and we are told that these are supply chain disruptions or labor shortages, both of which are pandemic-related. And at the same time, corporations are reporting record profits, and that just seems counterintuitive to many people. So what’s your take on why those two things are happening at the same time?

[Professor of Economics at the University of Massachusetts Amherst, ISABELLA] WEBER: Yeah. I mean, first of all, we have to realize that the supply chain issues are very real, right? So in normal times, companies, also very large companies, mainly compete over being able to deliver their products quickly, attracting customers through advertisement and so on. So if demand goes up, they basically react by delivering more of the stuff that they are producing. But what’s happening now is that suddenly, because this gigantic conveyor belt system, if you want so, is not working properly, stuff gets stuck. And suddenly, companies, even very large companies, have difficulties delivering.

MARTIN: I think people understand that. You know, if people want to buy things and they’re in short supply, of course they will be more expensive. But I guess the question would be, what is the line between kind of normal market functioning and market manipulation? Is there a lot, and who decides what that line is?

WEBER: Companies always want to maximize profits, right? In the current context, they suddenly cannot deliver as much anymore as they used to. And this creates an opening where they can say, well, we are facing increasing costs. We are facing all these issues. So we can explain to our customers that we are raising our prices. No one knows how much exactly these prices should be increased. And everybody has some sort of an understanding that, oh, yeah, there are issues, so, yes, of course companies are increasing prices in ways in which they could not justify in normal times.

But this does not mean that the actual amount of price increase is justified by the increase in costs. And as a matter of fact, what we have seen is that profits are skyrocketing, which means that companies have increased prices by more than cost. In the earnings reports, companies have bragged about how they have managed to be ahead of the inflation curve, how they have managed to jack up prices more than their costs and as a result have delivered these record profits.

Regardless, everyday Americans are now coping with dramatically and permanently higher prices for most goods and services (especially for essentials like food and housing) while having smaller cash reserves to hedge against future financial difficulties.  This forces them to live paycheck-to-paycheck and to have less freedom in their employment choices.  It is a utopian scenario for the corporate elite which was purposefully realized.  It is also a shortsighted and self-defeating strategy in the long-term.  Throughout history, societies dominated by a crass and gluttonous elite inevitably trigger bitter resentments within the populace which can and have resulted in terrible violence (e.g. The Enlightenment era French Revolution, the Russian Bolshevik Revolution, Chinese Communist Revolution, etc.).  America’s corporate class is fully aware of this history, and that is why it is desperately supporting neo-fascist Republicans in their cultural/political crusade against democracy and the rule of law in these United States.  You see, only through militaristic authoritarianism can an unruly population be controlled.

INFLATION 101 is concluded.