What if We’re Thinking About Inflation All Wrong?

In the last months, I have published, in this same newsletter, the problems that economies in general, and central banks in particular, have in understanding how to fight against this inflation. I call this inflation_2.0 because it has unique characteristics: COVID-19 Pandemic, Fiscal Stimulus and Monetary Policies, a war in Europe, Supply Chain Disruptions, Commodity Price Increases, Labor Market Pressures, Currency Depreciation, Rising Housing Costs, Inflation Expectations, where a number of economic fundamentals were exposed. Specifically, the dynamics of the markets.

Therefore, someone sent me this article “What if We’re Thinking About Inflation All Wrong?” (here ) that I recommend reading, but I am going to focus on the analysis of the paper that gives rise to the journalistic column (because of the double-blind review by colleagues). Here my summary.

The paper examines the phenomenon of "sellers' inflation" in the US during the COVID-19 pandemic, where large firms with market power were able to raise prices and increase profits. The authors propose a three-stage heuristic of the inflationary process, highlighting the role of rising prices in upstream sectors, the response of downstream sectors to protect profit margins, and labor's attempt to protect real wages. The paper argues that policy should focus on containing price hikes at the impulse stage to prevent inflation from escalating. The authors provide evidence from earnings calls and firm-level data to support their argument.

The main conclusions of the paper are as follows:

1. Sellers' inflation in the United States during the COVID-19 epidemic was driven by major enterprises with market strength boosting prices to increase profits.

2. A three-stage heuristic may be used to explain the inflationary process: impulse, propagation, and amplification. Rising upstream prices, downstream sector responses to safeguard profit margins, and labor's endeavor to defend real wages all contribute to the inflationary process.

3. To prevent inflation from increasing, policy should concentrate on restricting price increases at the impulse stage.

4. Earnings calls and firm-level data corroborate the hypothesis that major enterprises with market dominance were able to boost prices and profits throughout the epidemic.

5. Large enterprises' prices are neither optimum or market clearing, but they are impacted by path-dependent strategic interactions and rivalry.

6. The endurance of inflation is determined by how enterprises respond to the initial impulse as well as how labor responds to the loss in real wages. Current inflation is broad-based, but it is expected to diminish in the absence of more shocks.

7. Inflationary phases comprise a period of pricing stability prior to the pandemic, a first impulse of price and profit rises, price shock spread and amplification as companies safeguard profit margins, and periods of conflict and renewed impulses.

8. During the impetus stage of inflation, some industries and firms received windfall gains as well as high margin, profit, and price rises.

Pages: 5,6,10,13,19,22

The evidence?

The evidence supporting the conclusions of the paper is as follows:

1. The paper provides evidence of the duration and magnitude of the COVID-19 inflation, which suggests the need to develop tools to halt inflation when impulses occur in future global emergencies.

2. Firm-level data and insights from earnings calls are used to illustrate changes in prices and profits. This small-sample evidence supports the understanding of the different stages in the inflationary process.

3. Examples of upstream industries, such as trucking and Home Depot, show a pattern of price increases aimed at protecting profit margins rather than enhancing them. Despite falling demand, these firms were able to increase prices and achieve record profits.

4. The paper highlights that prices set by firms with market power are influenced by path-dependent strategic interactions and competition, rather than simply following the logic of supply and demand.

5. Evidence from earnings calls, such as those of Nucor Corp, supports the argument that large firms with market power were able to raise prices and increase profits during the pandemic.

6. The paper explains how firms react to the decrease in profitability by increasing prices, particularly in sectors that produce inputs. These price increases create cost shocks and act as an impulse for price hikes throughout the value chain.

7. The analysis of commodity-producing sectors, such as wood products, industrial chemicals, and primary metals, shows a rapid increase in profits as output prices rose sharply during the impulse stage of inflation. This supports the idea that profits drove inflation during this period.

8. The paper highlights the variance in profitability across sectors during the inflationary period, even among the largest firms. The explosion of profits in systemically significant upstream sectors is particularly important in providing impulses for systemic inflation.

Pages: 6,12,15,16,19,22,23,28,29

Overall, the research stresses the significance of major enterprises with market strength in pushing sellers' inflation during the pandemic, as well as the need of state actions to limit price increases and keep inflation from increasing.

Similar concepts can be read in this book that I read during the holidays: "The inflation myth and the wonderful world of deflation"

My point of view.

According to the evaluation, significant firms with market dominance boosted prices to increase profits, which drove seller inflation. This result is compatible with neo-Schumpeterian views emphasizing the impact of dominating companies on market dynamics.

The results of the study emphasize the disproportionate role of large firms with market power in boosting seller inflation. This is consistent with the concepts of neo-Schumpeterian, which stress market power concentration and its influence on market dynamics. From an economic standpoint, this concentration of power raises worries about the possibility for abuse and unfair income distribution.

The suggested three-stage heuristic, which considers the inflationary impulse, transmission, and amplification, gives a framework for understanding the inflationary process. It acknowledges the importance of growing prices in upstream industries, the downstream sector's reaction to safeguard profit margins, and labor's attempts to maintain real wages. This method is consistent with neo-Keynesian ideas on the role of demand management and labor dynamics in affecting economic results.

To prevent inflation from increasing, the article recommends that policy actions should concentrate on restraining price increases at the impulse stage. This approach is consistent with the concept of governmental involvement to minimize the negative impacts of market power and promote fair and equal results. It suggests the necessity for measures that address economic disparity, defend the rights of employees, and control monopolistic behaviors.

The research given in the study backs up its claims and provides insights into the factors that drive seller inflation. Firm-level statistics and earnings call insights show how significant firms with market dominance were able to hike pricing and profits throughout the epidemic. Individual industries, such as trucking and Home Depot in the United States, or banks or energy firms in Spain, highlight how enterprises increased prices to increase profit margins, demonstrating the influence of market dominance. This data emphasizes the need of regulatory measures to mitigate the harmful repercussions of unfettered market dominance.

Furthermore, the research emphasizes that price setting by enterprises with market power is impacted by path-dependent strategic interactions and rivalry, implying the relevance of institutional variables in determining pricing behavior. This discovery is consistent with neo-beliefs, institutionalism's which highlight the importance of social and institutional surroundings in economic processes.

Overall, the study emphasizes the importance of significant corporations with market strength in pushing seller inflation during the epidemic. From a heterodox economic standpoint, this raises issues about economic inequality and the necessity for governmental intervention to control price rises, promote fair competition, and protect workers' and consumers' interests. The study presents a comprehensive framework to comprehend and handle the complicated dynamics of sellers' inflation within a larger socioeconomic context by applying principles from neo-institutionalism, neo-Schumpeterian, and neo-Keynesianism.

Note: these are my personal appreciations and have nothing to do with the organizations with which I have any relationship.

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