Critical Perspectives on Inflation
Inflation is a general rise in prices. This necessarily decreases the purchasing power of money. Inflation is usually measured via changes in a consumer price index (CPI) which tracks the cost of a basket of goods and services that is understood to represent the purchases of an average household.
What is broadly agreed from a critical perspective is that extreme weather conditions such as crop failures and droughts alongside the pandemic contributed to disruptions to international supply chains leading to production being unable to keep up with the recovery in demand in 2021. The decline in investment in this sector and the restriction of gas deliveries by Russia in the summer of 2021 probably also contributed to the increase in the price of gas and other fossil fuels. The prices for energy and food in particular were then driven up further by the escalation of the war in Ukraine as well as the sanctions from the West and the counter-sanctions from Russia.
These shortages began as a result of the curtailment of production but continue because capitalists withhold commodities from the market in the expectation that prices will rise even higher and therefore profits. This unleashes a process of inflation that feeds on itself as commodity markets allow prices to rise and energy companies pass on the increased cost of energy to the supplier, with other systemically significant resources following a similar pattern. If the resources that all households and firms use increase in price then there is a general uplift in prices. It is debated but further to these price rises is Seller’s Inflation or ‘Profitflation’ where under the smokescreen of general inflation, companies take the opportunity to raise their own, specific prices to the consumer at least temporarily.
When inflation rates are high, wages are decreasing in relation to prices which means that real wages are decreasing - in other words, for every pound someone earns, they will typically be able to buy less with it. The “wage-price spiral” is the claim that wages are so high that they are forcing firms to put up their prices. This is obviously not happening in Britain today, and recent IMF research has shown historically it happens very rarely. More usually, employers are able to pass on rising costs through increased prices or by seeing their own profits fall.
So usually, an increase in wages more than inflation will harm profits but be unlikely to affect general prices albeit some labour intensive commodities may rise in price. With a weak trade union movement, the only immediate way to challenge this sort of inflation without hurting the workers would be through price controls or higher taxes followed by redistributive policies.
The traditional explanation of inflation is the result of the government printing too much money. In advanced capitalist economies, “Quantitative Easing” is quite close to governments printing money, but is more complicated because it relies on central banks issuing electronic money. But whilst billions of dollars, pounds and euros have been created like this since 2009, it is only with the pandemic that inflation took off, so it cannot be QE alone that caused inflation. More recently, the remedy for inflation has been for central banks to raise interest rates, in the belief that this would cause households and businesses to spend less, meaning unemployment should rise and workers become too frightened to demand higher wages. But if the “wage-price spiral” doesn’t exist, and inflation is partly due to big external shocks like the pandemic, higher interest rates will have a limited impact.
However, higher real interest rates tend to lead a currency to rise in value compared to others, so that a pound (for example) is worth more dollars.. This is because high-interest rates mean saving in that country gives a better return. Therefore investors often move funds to countries with higher interest rates. A higher value of the currency might reduce the price of imports, reducing inflationary pressure. But since different countries are all potentially driving up interest rates, this effect will usually be limited. The most obvious beneficiaries from higher interest rates are banks, whose profits have risen enormously since interest rates started going up.
There is not a consensus on the exact causes of inflation, in particular what global political and economic factors matter most or to what extent. However, it is clear that the mechanism of only raising interest rates serves the interests of capital, not people.
by Laurence Jones-Williams, Rethinking Economics International
Common Words and Phrases
Consumer Price Index (CPI) is a measure of inflation, that estimates the average variation between two given periods in the prices of products consumed by households
Retail Price Index is a measure of inflation similar to CPI but includes housing costs, which means it is usually a higher value
Cost-push inflation describes inflationary pressures that occurs due to some problem on the supply side of the economy
Demand-pull inflation is due to demand across the economy outstripping the economy’s current productive capacity, often what is meant by an overheating economy
Disinflation is a temporary slowing of the pace of price inflation. The term is used to describe occasions when the inflation rate has reduced marginally over the short term.
Deflation is a general decline in prices for goods and services
Core inflation is the change in the costs of goods and services, but it does not include those from the food and energy sectors.
Stagflation is an economic cycle characterised by slow growth and a high unemployment rate accompanied by inflation.