Inflation topped 7 percent in December, the highest level in forty years. The Biden administration has tried blaming rising prices on corporate greed with antitrust enforcement as a remedy. Does this make economic sense?
We must first consider what is inflation. Measured by the rate of change in the Consumer Price Index (CPI), economists define inflation as an increase in the general price level. Increases in the prices of some goods with others remaining unchanged raises the CPI but are changes in relative prices. Relative price changes result from changed economic conditions like with lumber in 2020.
A “pure” inflation is an equal percentage increase in all prices, including wages and salaries. Inflation also involves an expectation continued price increases. Pandemic-related production disruptions might cause price increases but not continued increases; prices should stabilize once production resumes and back orders filled.
Is the last year’s CPI increase due to relative price changes or true inflation? We clearly have had some relative price increases, for things like lumber and new and used cars (37 percent price increase over the past 12 months). But many CPI components have increased by five or six percent. Most prices are rising.
Interest rates provide the best gauge of future inflation. They are based on the decisions of thousands of persons, each investing her own money, and superior to any expert’s forecast. Florida Atlantic University economist Will Luther calculates that the bond market currently forecasts 2.6 (2.2) percent annual inflation over the next five (ten) years. Markets expect inflation to moderate but not disappear.
Now we can turn to greed and antitrust. I will not distinguish between greed and self-interest here. Economists assume everyone acts in their self-interest; for businesses this means selling for the highest prices possible. But consumers must voluntarily purchase what businesses want to sell and competition between sellers limits prices.
Greed only explains rising prices if competition has been reduced. State business closure orders during COVID helped bankrupt thousands of small businesses. Yet the impact of these failures on the overall level of competition is likely modest.
Furthermore, reduced competition would likely generate a one-time price increase; with less competitive pressure, a business might raise prices by five percent. Since greed is not causing inflation, more aggressive antitrust enforcement will not stop inflation.
Economists across the political spectrum recognize this. Larry Summers, formerly Secretary of the Treasury under President Clinton, said on Twitter: “The emerging claim that antitrust can combat inflation represents ‘science denial.'”
Precedent exists for using inflation fears to justify unrelated policies. Until the 1970s, Washington regulated railroads, trucking and airlines. This was not just safety regulation but control of the number of firms, routes of operation, and prices. Economic research documented the harms of this regulation: higher prices, reduced productivity, and poorer transportation options.
The principle of concentrated benefits and dispersed costs from public choice economics explained the persistence of such regulations. The companies and their unions, including the powerful Teamsters, benefited from regulation. Consumers faced an enormous total cost but small individual costs. Regulation was crucial to the industry but a minor issue for consumers.
Then something amazing happened. America faced high inflation and Senator Edward Kennedy sought an issue to boost his presidential hopes. Future Supreme Court Justice Stephen Breyer was on the Senator’s staff and knew about the economic research. Senator Kennedy held widely publicized hearings touting deregulation to offset the pain of inflation. President Carter got on board and by 1980, all these industries were deregulated.
Attributing causality is virtually impossible in public policy. But most histories of deregulation cite Senator Kennedy’s hearings as highly important in the process. Deregulation as a cure for inflation is economic silliness. Yet confusion over inflation may have enabled beneficial policy change.
Policy makers I suspect remember this lesson. Expect politicians to try selling their pet projects as fighting inflation. But as economist Milton Friedman famously said, “Inflation is everywhere and always a monetary phenomenon.” Alleged inflation remedies should be evaluated on their own merits.
Photo by Nathaniel_U, Attribution 2.0 Generic (CC BY 2.0).