PAYING THE PRICE

by Katie Neitz

Professor Matías Vernengo, economics, first became aware of inflation as a child in Argentina. During the 1980s and ’90s, the inflation rate in his native country soared to more than 1,000%. As a teen, he read a book that opened his eyes to the symbiotic relationship between developed and underdeveloped countries: One prospers at the sacrifice of the other. It sparked his interest in economics. Today, he is a macroeconomist with a special interest in developing countries and the history of economic ideas. Here, he shares insights on the disruptions impacting the global economy.

Q: What is the root cause of today’s high inflation rate?

It’s a breakdown within the supply chain. As people stopped consuming goods and services during the pandemic, significant supply-chain issues and bottlenecks caused increased production costs in sectors acutely impacted by the shutdown. Prices increased for used cars, airfare, restaurants, housing and the energy sector, while transportation issues — clogged ports and trucking delays — added pressure. These can be temporary shocks. But if supply chains don’t adapt, inflation persists, which is what we’ve seen.

Q: What impact did the U.S. government’s actions have?

The overwhelming effort at the beginning of the pandemic was aimed at preventing a total economic shutdown. Financial rescue plans maintained levels of spending, and the Fed increased the money supply. Expanding fiscal and monetary policy has become the norm in recessions since at least the postwar era, and is practiced in order to avoid the pitfalls of inaction — a lesson we learned from the Great Depression. During the 2022 midterm elections, conservatives blamed the Biden administration for inflation, saying relief checks increased consumer demand and then prices. Meanwhile, the White House claimed the economy recovered quickly, thanks to the increase in consumer spending — possibly due to the relief checks — and blamed inflation on corporate greed.

Q: Who was correct?

In my opinion, neither. First, it is hard to agree that the government’s generous social spending spawned inflation. If disruptions to supply chains and transportation become endemic, moderately higher levels of inflation will persist.

The war in Ukraine is also an important factor. Ukraine is a major agricultural exporter, so the conflict has caused increased prices for wheat and other foods, and has also pushed up the cost of oil and gas.

Second, while it is true that personal consumption has recovered, the question is whether companies can increase production to provide for the additional demand. So far, they haven’t. In fact, investment in production is below pre-pandemic levels.

So it wasn’t the government or corporations that caused inflation. Bad luck is closer to the truth.

Q: Can anything be done to resolve those issues?

Not much. If the causes of inflation are the war in Ukraine and the closure of ports and production facilities, there’s no direct government policy to change that in the short run. Conservatives have demanded fiscal and monetary restraint, but that would only work if inflation was demand driven — it’s not. Progressives suggest alternative policies, like price controls, which would require a more organized or planned economy, in which key parts of the supply chain are domestic — they’re not.

Inflation is fundamentally about wealth inequality between social groups. The poor always suffer the most.

Fortunately, I do not think inflation will reach 14% as it did during the Great Inflation of the 1970s. The labor force is less unionized, which means the demands for higher wages will be weaker. Also, the price of oil and natural gas has dropped significantly.

Learn more about the complexity of inflation from Professor Matías Vernengo. In this video interview with New Economic Thinking, he discusses inflation’s implications on workers and the economic policies that can potentially mitigate these effects.

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