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STATE OF THE ECONOMY

Price spike in April raises fears of inflation

Greater risk is putting on the breaks too soon

Posted

April’s inflation number was the highest in 12 years. Meanwhile, the news is full of stories about record-high lumber prices, chip shortages disrupting auto manufacturing, soaring real estate prices, difficulty in hiring thwarting restaurant re-openings.

Some point to these supply-side bottlenecks as indicating an overheated economy. They argue that urgent action is needed to prevent runaway inflation. Time for the Fed to put the brakes on!

Nonsense. We are still in the midst of the worst recession in the memory of any living person not a nonagenarian. We are still 8 million jobs down from pre-pandemic levels. That we should worry about inflation with millions without jobs is silly.

In fact, it is that we are having difficulty ramping back up to full employment that indicates the need for continued expansionary policy. As the old saw goes, high prices is the cure for high prices in the sense that high prices brings on increased supply, which pushes down prices.

Besides, inflation isn’t necessarily that bad. Inflation was much higher in the 1970s and early 1980s than anything we are likely to see now, topping out at 14.6 percent in March 1980. Inflation-adjusted median family incomes increased throughout those two decades. Meanwhile, the low inflation 1990s and 2000s are associated with slower growth in inflation adjusted median incomes.

I am not saying there is cause and effect here. I am just saying that moderate inflation is not necessarily bad for the typical household, at least not historically. Wages keep up and can even outpace inflation.

The impact of inflation on different societal groups is complicated. Generally, the poor suffer the least adverse effect. Government programs that help the poor are often indexed for inflation. Tight labor markets associated with high inflation can push up wages for marginal workers. And of course, the best way to eliminate poverty is to give a poor person a job.

The middle class can benefit from inflation. Real estate is an asset class that tends to do well during inflation. Given that a personal residence is often the primary asset owned by middle-class families, inflation can help these families accumulate wealth.

Inflation generally is bad news for the wealthy. They tend to hold disproportionately large amounts of their wealth in stocks and bonds, assets that do not typically do well during periods of inflation.

Of course, inflation can get out of hand. Very high inflation can cause hyperinflation, a loss in confidence in the currency. When this happens, people stop using the local currency in exchange, often substituting a foreign currency but sometimes being forced to resort to barter.

Hyperinflation is very destructive and is often associated with failed states and a breakdown of social order. Venezuela comes to mind in this context. That country experienced an inflation rate over the 12 months ending in March of more than 3,000 percent or about 16 percent per week.

The Venezuelan economy is in shambles. Socialist policies, government crackdowns and hyperinflation have made life unbearable for many. About 70,000 Venezuelans are now refugees in Colombia.

The modest inflation we are experiencing in the United States, while higher than in recent years, is a good thing if it helps Americans get back to work. But too much inflation should be avoided.

Christopher A. Erickson, Ph.D., is a professor of economics at NMSU. He recently purchased a new house, so hopes inflation drives up home prices. The opinions expressed may not be shared by the regents and administration of NMSU. Chris can be reached at chrerick@nmsu.edu.

Chris Erickson