“Greedflation.” “Shrinkflation.” “Junk fees.” “Price gouging.” “Monopoly power.” Barely a week goes by without President Biden or some other politician slamming companies for the prices they charge.
It’s not surprising. We’ve just experienced the first major burst of inflation since the early 1980s. American families are angry that grocery prices rose 21 percent in three years after January 2021, as interest rates for new mortgages and auto loans have surged. Politicians and central bankers have every incentive to blame external forces or greedy businesses, rather than their own macroeconomic stimulus, for these consequences of inflation.
Depressingly, the buck-passing is working. The public sees profit-seeking corporations as inflation’s foremost villain, according to a recent YouGov survey. Even among those skeptical that corporate America suddenly colluded to jack up prices, many still mistakenly believe that today’s high prices were entirely driven by the pandemic and Vladimir Putin’s war on Ukraine.
As a result, the public rarely chastises the Federal Reserve for recent price spikes, despite the central bank’s mandate to keep inflation in check. Republican voters often blame President Biden’s $1.9 trillion American Rescue Plan, but even they fail to censure Federal Reserve chair Jerome Powell and his team for the inflation surge. Indeed, YouGov didn’t even list the Federal Reserve among the possible answers as to who was to blame for inflation.
As a matter of economics, failing to note monetary policy’s role in inflation is incoherent. Pandemic-driven supply shocks and global energy price spikes undoubtedly increased prices by constraining the economy’s productive capacity. Had the central bank not pursued monetary accommodation, however, such forces would have caused a short, transitory inflation burst that ultimately would have receded. Instead, consumer prices remain 11 percent above where they’d be expected to be if annual inflation had stuck at 2 percent post-2019.
My new edited volume, The War on Prices: How Popular Misconceptions about Inflation, Prices, and Value Create Bad Policy, catalogues politicians’ faulty theories about inflation’s causes. Scholars Pierre Lemieux, Bryan Cutsinger, Brian Albrecht, David Beckworth, and Stan Veuger document that inflation wasn’t the product of greedy corporations, aggressive wage demands, or even primarily supply-shocks and bottlenecks. The best explanation was overly stimulatory macroeconomic policy.
The Fed oversaw $6 trillion of new money creation in two years that, alongside vast government borrowing, stimulated total spending on goods and services way above its pre-crisis trend—an excess demand that drove up the price level. Only when the Fed squeezed money growth again did spending growth and inflation start falling.
Understanding this matters because popular misdiagnoses of inflation’s causes have further fueled what I call the “war on prices”—the drumbeat calling for government price controls. If the public doesn’t understand that the recent bout of inflation reflected too much money chasing goods and services—and thinks instead that it was caused primarily by supply bottlenecks and greedy capitalists—it won’t see tighter monetary policy as the answer.
Misunderstanding the cause of recent inflation has already driven policymakers toward microeconomic “solutions.” The Biden administration has variously sold green-energy subsidies, more aggressive antitrust action, drug-price negotiations, and even its anti-junk-fees crusade as answers to inflation. Most of these policy ideas confuse policies that would induce relative price changes for ones that would affect the overall price level.
Such muddled economic thinking ultimately emboldens calls for more overt price controls. Indeed, we’ve seen calls for sector-specific price controls and excess profit taxes to deter price hikes, as used in Europe, as well as a congressional anti-price gouging proposal that would have capped prices in the pandemic.
What’s more, this comes on top of price controls already proliferating in many individual product markets amid governments’ broader war on prices. Rent control is making a comeback across the country. Many states and localities have boosted their minimum-wage rates. Some localities now cap food service-delivery fees, and some states restrain payday-loan interest charges.
At the federal level, the Consumer Finance Protection Bureau controls credit-card late fees. The Biden administration also wants to micromanage how airlines charge for allocating seats and outlaw telecom companies’ early termination fees. Some senators have even sought to ban “shrinkflation” for potato chips or threatened to preclude certain companies from experimenting with Uber-style “dynamic pricing.”
My volume explores in detail the economic damage caused by historic and current price and wage controls, directly refuting the moral and economic objections to market-set prices that inspire these policies. Rigorous analysis provided by top economists, including many of my Cato Institute colleagues, confirms why economists generally hate price controls: they do not curb inflation, and they create inefficiencies, shortages, black markets, and deteriorations in product quality.
Sadly, much of the public still thinks of the price level and prices in general as a morality play, rather than the bottom-up result of human action driving supply and demand. They tend to ignore how firms are disciplined in what they can charge by their competitors and consumers’ ability and willingness to pay. They also object to firms raising prices when demand surges—thus the increasing potency of calls for wage and price controls in recent years.
Yet, free-market prices are a marvel worth defending. The information and incentives they provide help guide and coordinate consumers’ and businesses’ decisions, and they generate profit and loss information that allows us to evaluate those actions. Market prices thus not only encourage efficiency but also entrepreneurial, market-led economic growth.
This economic-coordination mechanism is severely impaired when central banks mismanage money and governments control prices. For prosperity’s sake, we must head off the war on prices.
Photo: Abdullah Durmaz/E+ via Getty Images