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OPINION

Temporary inflation

Temporary inflation
November 19, 2021
Temporary inflation

Like it or not, we need to think about class conflict – because this is central to the question of where inflation is heading.

The standard model taught to my generation says that inflation arises from a “battle of the mark-ups.” When workers have the power to raise wages faster than prices, but employers have the power to raise prices more than wages, the result is rising inflation as wages and prices chase each other upwards.

Which explains why inflation was so low for so long since the 1990s. Thanks to the decline of trades unions and high unemployment, workers didn’t have the power to push for big pay rises. And globalization meant that few firms had the market power to push up prices more than costs.

If inflation is to be anything more than a temporary concern, this pattern must have changed. But has it?

You might think it has: labour shortages are increasing wages, and these costs are leading to rising prices.

But this isn’t really the case. Yes, official data show that median wages in the transport sector have jumped by 7.5 per cent in the last 12 months as lorry drivers have got decent pay rises. But they are exceptions. Median monthly pay in the economy as a whole rose less than five per cent in the year to October. That implies real wage growth of less than one per cent, which is hardly fulfilling the wildest dreams of Arthur Scargill and Red Robbo.

And nor should it because, overall, the labour market is still loose. Total hours worked – a good guide to labour demand – are still 2.8 per cent below their 2019 peak. And a wide measure of joblessness (which includes the officially unemployed as well as those outside the labour market who want a job) stood at over 3.1 million in the third quarter – slightly above its 2019 low-point. Labour shortages, then, are only part of the story. The big picture is that the labour market is slightly looser than it was in 2019. That didn’t empower workers sufficiently to cause inflation. So why should today’s labour market do so?

What’s more, if inflation were the result of changes in class power, we’d expect to see price rises across the board. But we are not. Of the 4.2 per cent rise in the CPI in the year to October, 1.7 percentage points were due to just three sectors: electricity and gas; used cars (because chip shortages mean new cars aren’t available); and petrol. Elsewhere, inflation is running at a boring 2.5 per cent.

This tells us that inflation is caused more by shortages of capital than of labour: a lack of gas and oil production facilities and lack of chip-makers. It also tells us that not much has changed in the wider economy. Neither the typical company nor the typical worker has the market power to cause sustained inflation.

Which points to an alternative explanation for inflation. Quite simply, the snapback in activity after the lockdowns combined with bottlenecks in a few sectors such as energy, chip production and road haulage are causing a few wage and price rises. In a healthy market economy, supply and demand eventually respond to such rises, with the result that they prove to be only one-off. If you have confidence in the ordinary workings of market forces, you therefore have no reason to fear sustained inflation.