This morning’s release of the Producer Price Index (PPI) for February 2022 demonstrated that the inflationary pressures caused by the Biden Administration have continued. In February, prices for producers jumped another 0.8%, generating a 12-month producer inflation rate of 10.1%, tying the record set in December 2021. As demonstrated in the historical PPI data presented in Figure 1, the inflation recently observed is significantly higher than what Americans have confronted over the last decade. The Biden Administration and its liberal allies in Congress are in full panic mode, blaming the pandemic, the global supply chain, corporate greed, and Vladimir Putin. They are unwilling to acknowledge that the single greatest inflationary pressure has, in fact, been their own policies.
The amount that producers pay, as measured by PPI, directly affects the ultimate prices that confront consumers. PPI captures the cost of raw materials and intermediate goods that manufacturers and retailers pay. As input prices rise, companies who stay in business must either pass those increases on to their customers or absorb them out of profits, usually with a lag. Since time elapses between when a producer obtains raw materials versus when the final goods are purchased by a consumer, there is often a 2-to-3-month lag that often occurs between when producer prices rise and when we see how much of the price increase ends up in the retail price. With PPI continuing to rise in February, we should expect the already 40-year high inflation for consumers to continue rising.
How much of the rise in producer prices get passed along greatly depends on the market power of the producer. The Biden Administration and its liberal allies argue that profiteering explains much of the increase in prices Americans have witnessed. However, if that were the case, we would see consumer prices rise faster than producers’ input prices. That has not been the case. Over the last 12 months, producer prices have risen 10.1%, while consumer prices have risen 7.9%. When costs rise at a higher pace than revenues, companies have absorbed some of their cost increases, and profit margins decline. Statements blaming profiteering are intentional deceptions to mask the true failures of liberal policy. After all, high inflation has only been witnessed for the past year, even though corporations have been seeking profits for decades.
To truly identify the cause of inflation, we can look at consumer prices and see a similar pattern. As Figure 2 demonstrates, the consumer inflation uptick began in March 2021, perfectly coinciding with Congress passing the American Rescue Plan. This is not a coincidence. It cannot be blamed on the reopening of the economy beginning June 2020. For the 9 months from June 2020 to February 2021, inflation averaged 0.32% per month, whereas from March 2021 to February 2022, it has averaged double that at 0.64% per month. Inflation surged starting in March 2021 because the American Rescue Plan spent $1.9 trillion in ways that encouraged unemployment, extending such generous benefits that many potential workers found not working more lucrative. Borrowing against the future to provide households money for not working simultaneously ramps up demand while discouraging the very workers who would satisfy that demand. Even Larry Summers, the Treasury Secretary under President Clinton, called the Biden fiscal policy “the least responsible macroeconomic policies we’ve had in the last 40 years.”
Source Data: https://fred.stlouisfed.org/series/CPIAUCSL
To understand this marked increase in inflation, one might compare the increases in prices we have observed to other developed nations, such as those in Europe. All of the developed world was similarly hit by the pandemic and global supply chain issues. Parts of the world impacted by a common shock should realize a common increase in inflation. Significant differences in inflation between otherwise similar countries are most likely the result of unique shocks, not things that are in common. As Tyler Goodspeed, former Acting Chairman of the Council of Economic Advisors to President Trump, stated in recent congressional testimony, “compared to 45 other major economies tracked by the Organisation for Economic Co-operation and Development (OECD), the increase in the average level of inflation in the United States in 2021, relative to its 2019 pre-pandemic average, was greater than in all 45 other economies except Saudi Arabia, Brazil, and Turkey.” As much as the Biden Administration would like to blame Vladimir Putin, were that the cause of inflation, arguably Europe would have seen higher inflation than the US as their economy is more interrelated with Russia than is the US.
Sustained elevated inflation has the negative effect of decoupling expectations. If inflation is expected to be transitory, it is absorbed when it arises, but it does not alter contracts. However, if higher levels of inflation are expected to continue, workers seek long-term contracts that lock in wage increases that compensate them for the expected higher inflation environment of the future. The result is a cost structure for companies that have locked in higher increases for many years that will be, at least partially, passed along to consumers in the form of higher future prices. This dynamic generates a wage-price spiral that will cause inflation to persist.
The recent fuel inflation is particularly costly to the economy. Because the transportation of raw materials and finished products is required in nearly all industries, higher fuel and energy costs raise the prices of final goods broadly. These increases reverberate much more broadly than other types of shocks that are limited to a particular industry.
It is also important to distinguish the effects of higher prices on things like energy that are sourced internationally. The result is that the higher spending on those items is not recirculated in the US economy. When consumers spend more on domestically generated items, the price increase transfers wealth within the United States. Due to the energy policies of the Biden Administration, we are significantly more reliant on foreign sources of energy, and American consumer dollars are instead funding our potential adversaries, including Russia, Venezuela, and Iran. When prices rise, it causes consumers to reduce the consumption of other items. Higher oil prices mean that consumers pullback in other areas. The result is flat real consumption growth but more of that consumption being fulfilled by foreign goods. This generates a drag on economic growth such that the Atlanta Fed was recently forecasting that GDP growth will be 0.0% in the first quarter of 2022.
Congress and the Biden Administration have failed to be strong stewards of our Nation’s economy, resulting in the highest inflation we have witnessed in 40 years. The Biden Administration needs to stop making matters worse by implementing an inflationary fiscal policy that will cause the Federal Reserve to be even more aggressive on monetary policy that has the real possibility of putting our economy into a recession.
Michael Faulkender serves as a Visiting Fellow for the America First Policy Institute (AFPI).