Chances are if you’ve pumped gas, picked up meat at your local grocer, made home improvements, or, God forbid, bought a car — you’ve felt the pinch on your pocketbook. Inflation is one of those big scary words used in economics — something that you see and feel immediately. The median American family of four makes a mere $69,000 a year; 7.5% inflation can cut up a paycheck rather quickly.
The fact that inflation is the product of a set of forces to which we’re blissfully ignorant makes it all the scarier. Prices continue to climb, we’re left no choice but to pony up.
I’m no economist. But, as inflation has captured our minds more than any single political issue — absent, maybe, an impending world war — I decided I should go out looking for answers to some of the questions we may all share. And economists have a way of opining well outside their field, so I figured they might not mind an epidemiologist doing the same. Indeed, after a deep dive into the literature and some conversations with economists, I’ve found some answers. It turns out epidemiology may be more relevant than I had thought.
This week, I’m writing a two-part series on inflation. Here we’ll cut into the causes behind our current inflation. On Thursday, we’ll look at the role corporations are playing in accelerating it. Let’s cut in.
Inflation Explained. Part 1.
What is Inflation?
Put simply, inflation is the devaluation of currency (inflated means “full of hot air”). That means that every dollar is worth less in terms of the quantity of goods and services that dollar can command. Though economists differ on exactly how best to measure inflation, the gold standard measure is the consumer price index — which measures the average month-on-month change in the price of a suite of goods that the common American family may purchase, such as gas, groceries, or cars. If, for example, the cost of that suite of goods is 7% higher in February of 2022 than it was in the same month last year, that means we’ve had 7% annual inflation.
A little bit of inflation — say 2% or 3% — is an expected byproduct of the modern economy. But too much can start to drive an inflationary cycle that falls hardest on people with fixed incomes, like seniors.
Inflation occurs when too much money chases too few products. Because there are too few products for the amount of money chasing them, the money has less purchasing power — is “inflated.” In supply and demand terms, it means that there’s either too much demand or too little supply. By thinking through plausible explanations on either side of the supply and demand function, we can start to piece together why we’re facing such inflation right now.
The pandemic economy.
Surprise, surprise — we’re going to be thinking a lot about that other thing that’s happening right now, the pandemic.
Let’s consider the demand side. First, the pandemic fundamentally changed consumer preference. Rather than purchase services — like nice meals out or flights and hotels, people decided to invest in durable goods they could use throughout this period. The demand for homes, home improvements, cars, and consumer electronics soared. Meanwhile, COVID stimulus checks and other financial benefits that were critical to stabilizing the economy put a bit more money in pockets that previously hadn’t had much. And credit card debt is lower than it’s been in years. But that also meant that folks who, as a function of the radical inequality in our society, were usually too strapped to invest in these consumer goods had the opportunity to do just that.
The imbalance in demand — shifting from services to goods — happened just as COVID wreaked havoc upon our supply chain. I ordered a new vehicle last April. It didn’t come until October. For about two months it sat in a lot without a computer chip. That’s not only because more people were buying cars, but because suppliers couldn’t make or transport them fast enough. Think about all the ways COVID could interfere: worker outages at manufacturing facilities, worker outages at ports and dockyards, fewer truckers on the roads, and so on.
So we have a changing demand meeting limited supply. When we look at the CPI, this tracks. Remember, the index is an average — so the topline doesn’t necessarily reflect equal increases across the board. Particularly steep increases in a single sector can drive up the average overall. That’s what seems to be happening. The latest CPI is driven mainly by increasing energy prices and new and used cars.
How bad is it?
The big question on every macroeconomist’s mind is how long this will last. As I’ve written in the past, this pandemic is not a “new normal.” This, too, shall pass. The question is how long the economic disturbances it has caused will last.
Economists mainly agree that the most dangerous inflation — inflationary spirals — sets in when wages start to build in adjustments for it across the economy. Worker contracts literally stipulate 7-10% year-on-year growth because workers simply assume that inflation is going to eat into their paychecks. That then drives up labor costs across the economy, which in turn drives up prices, and so on.
From what we understand, we’re not quite there. Though this is longer lasting than many economists had expected, owing in large part to the delta and omicron surges prolonging the pandemic, we may yet be approaching a new normal. Which is why, in the grand scheme, if you want to understand inflation, it may be better to be an epidemiologist than an economist (well, at least for now).
We’ll cut into the role that corporate greed is playing in accelerating all this in part two. Stay tuned.