Inflation in 2022

Inflation is skyrocketing in most developed countries. In the US, inflation climbed above 8% in January for the first time since the 1980s; in the UK, inflation reached 6% in March 2022 – a first in 30 years. Whilst, the recent spike in prices can be attributed to a combination of supply chain shocks and rising demand, to the surprise of no one, politicians and policy-makers are most at blame for the crisis at hand. Exorbitant increases in the money supply from wasteful government spending and excessive expansionary monetary policy measures have sent inflation through the roof – inflicting pain on millions around the globe. Whilst economists are uncertain as to whether inflation will persist at such exorbitant levels for the rest of the decade, households will face the pain of falling real wages and living standards for the rest of this year.

Supply crises

Supply chains globally have been crushed by the coronavirus pandemic; in particular, the energy sector has seen production decline to record lows. 2020 saw annual oil production fall to levels not seen since 2010. This has contributed to the spike in oil prices; Brent Crude oil prices skyrocketed to a high of $130 in March 2022 – a more than 6-fold increase from $20 per barrel in 2020. Higher oil prices have increased production costs for firms across all sectors, especially the meat and poultry industry. Since 2020, the price of supermarket ground beef has risen 50% as higher production costs have been passed onto consumers as cost-push inflation. Putin’s barbaric invasion of Ukraine further added to spiralling energy costs. Since the beginning of his conquest, Brent crude oil has increased by 12% as of the 5th of April. Lower supply levels from Western sanctions on Russian exported oil and gas have compounded the initial supply chain shocks. As a result, households are feeling the burden of higher prices – a sharp pinch on household budgets as inflation exceeds wage growth, resulting in real wages falling at a rate comparable to the Great Recession in the UK.

As pandemic restrictions have come to an end, aggregate demand has rapidly increased, placing upward pressure on prices. During the coronavirus pandemic, people were forced to remain in their homes. At the same time, the government forced stores to remain closed. This resulted in a sharp increase in the household savings ratio, reaching 30% in September 2020 – the highest since records began in 1963. However, an easing of restrictions has been accompanied by a boom in consumer spending. The savings ratio has fallen sharply as consumers rushed to spend their pandemic savings. The result has been a sharp spike in aggregate demand in a short period. Given that supply hasn’t been able to keep up with such a sharp spike in demand, this has culminated in demand-pull inflation.

Explosion in the Money supply

Governments have run large fiscal deficits to support the economy in light of the coronavirus pandemic. However, these measures have gone too far and are now hurting the people they first intended to help. In the US, the budget deficit reached over $3 trillion in 2020 – worth an outstanding 20% of GDP, resulting in government debt in the US reaching a record high of 110% of GDP. This exceeds levels reached during WW2. A similar tale in the UK, the budget deficit exceeded 14% of GDP for the first time since the 1940s. This excessive spending has resulted in a large increase in the amount of money in circulation in both the UK and the US. However, the excessive and wasteful spending of taxpayers’ money by politicians hasn’t produced an equivalent increase in productivity levels. As output and economic growth lag the quantity of money in circulation, too much money now chases too few goods. The result? Spiralling inflation.

“Inflation is always and everywhere a monetary phenomenon”

Milton Friedman

Central Banks enacted expansionary monetary policy measures in light of the pandemic. In the UK, the bank rate was cut from 0.75% to 0.1% in March 2020. Similarly, the Federal Reserve cut the discount rate from 3% to 0.25%. This has made it cheaper for firms and individuals to borrow by reducing their debt repayments, thereby inducing demand-pull inflation through greater investment and consumption within the economy. In addition, Central Banks in both the UK and the US returned to the disastrous QE measures first witnessed in 2008. Between March and June 2020, the BoE purchased £100 billion worth of bonds; this figure exceeds the preposterous spending on bond purchases between 2012 and 2016.

The Federal Reserve in the US engaged in like-minded measures; excess reserves have climbed from $1.5 trillion at the start of the pandemic to an astronomical $8 trillion as of March 2022 – an over 430% increase. The narrow-minded policymakers at the Federal Reserve that includes Janet Yellen (Treasury Secretary under the failed Obama administration) failed to reconcile that a $6.5 trillion injection into the economy would cause an inflation crisis the likes not seen since the 1970s. Quantitative Easing in the early 2010s largely sustained house prices at the astronomical, overvalued prices they reached during the 2000s; at the same time, the stock market boomed between 2010 and 2014 despite unemployment levels remaining relatively consistent. Inflated asset prices and moderate consumer price inflation was the result of $1.5 trillion worth of stimulus; an additional $6.5 trillion in injections would undoubtedly produce a far greater increase in prices to anyone with a logical mind. However, this simple conclusion failed to reach the geniuses at the Federal Reserve. Inflation is set to reach 10% in the US by the end of 2022 with asset prices reaching record highs. House prices have risen by 25% between 2021 and 2022, making homeownership a mere dream for tens of millions of Americans who will now face a life of renting. Perhaps, this has been their intention all along? After all, Yellen received tens of millions from corporate speeches after leaving the White House in 2017.

Ultimately, we can mainly thank the bureaucrats and politicians for the current spike in inflation. Whilst supply chain bottlenecks and a sudden increase in demand have certainly contributed to inflation, the ineptitude on full display by government and central bank officials growth has ballooned the amount of money in circulation. Resolving supply-side shocks without further increasing the money supply will prove difficult; any attempts to cut interest rates further will further exacerbate inflation rates, leaving Central Banks in a Catch-22 situation. As a result, Inflation rates won’t be falling anytime soon, plunging millions of households into poverty as real wages and disposable incomes fall at rates not witnessed in decades. If the Federal Reserve is to be serious about tackling the inflation crisis, a sharp sell-off in its balance sheet needs to be immediate. As Ronald Reagan famously said: ‘Government is not the solution to our problems. Government is the problem.’