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Economy

Marshall Economist Says Patience Key To Moving Out Of Current Inflation

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As the U.S. economy has opened back up, it has brought increased inflation and higher prices on just about everything. Nabaneeta Biswas is a professor of economics at Marshall University in the Department of Finance, Economics and International Business. She spoke with Eric Douglas to discuss what inflation means for the country.

This interview has been lightly edited for clarity. 

Douglas: What's the textbook definition of inflation?

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Marshall University Economics Professor Nabaneeta Biswas.

Biswas: The textbook defines inflation as the percentage of change in price over a certain period of time. That time could be one month, it could be a quarter, or it could be a year. Or it could be over several years. The most common that we now see is over quarters, or maybe month to month. We are focused on it more closely, because we know that inflation is rising.

Douglas: There's always some level of inflation, prices are always creeping up, right?

Biswas: Right. So there's a difference between just inflation, which is price increase, and an acceleration of inflation, which is rapid increase in prices, The inflation rate is, let's say, three percent. You will see price increases over the years by three percent. But if the inflation rate changes from three to five percent you would see that price increase being more rapid.

Douglas: What's causing this jump now?

Biswas: They are actually a bunch of factors and these are actually classic textbook theories of what causes inflation, and we're seeing them in action right now. This is called demand pull inflation, when aggregate demand increases, and production capacity doesn't match up to it, which causes prices to rise. An increase in aggregate demand is desirable because unemployment goes down, and the GDP goes up. Economists always say there are costs of increasing output and GDP growth and reducing unemployment. And the cost sometimes is inflation.

The other factor here is cost push inflation. Basically, that's a negative supply shock. The raw material and labor shortages we are seeing in some of the sectors is increasing the cost of production. That is why suppliers or retailers have to increase the price of the product.

Douglas: As the demand increases, that's kind of the natural way of doing business. And prices slowly creep up. The other side we're seeing is there are shortages, whether it's shipping from Asia, whether it's domestic manufacturing and raw materials. What's causing some of those problems? Is it all COVID-related? Is it other bigger things at work?

Biswas: I think experts are saying it's mostly COVID-related, because there's a breakdown in the supply chain. For example, lumber supply, workers in the lumber industry, because of COVID, they had to stay home and they gave up on that work. This is what caused lumber prices to increase.

The other thing that we are experiencing is because of inflation, the dollar is losing value. So a lot of the goods that are imported, including raw materials, those are becoming costlier because the value of dollar is going down. That's one of the costs of inflation, that imports cost more now.

During the pandemic, we experienced negative demand shock, which is demand went down in a lot of sectors. And we also saw a decline in production capacity, because there was no demand, there was no production. And now all of a sudden the economy's returning to normal as the demand is returning to normal. And so what we are experiencing right now is production trying to match up to the demand. And until it does, we are going to experience inflation.

Douglas: During the height of the pandemic, we were all working from home, we weren't buying those big ticket items. And a lot of people saved a bunch of money because we weren't going out to eat and that kind of thing. And now that things are loosening back up and people are going back out shopping, that's causing the demand to increase and the supply to drop off.

Biswas: Exactly. Demand is increasing more rapidly right now than it has in the past. If it's a constant rate of increase in demand, it wouldn't cause inflation but because it's increasing more rapidly after that negative COVID shock, that's why we're experiencing this. An economist’s view of inflation is different from a non-economist’s view of inflation. Economists believe that inflation is temporary. And the costs of reducing inflation are actually higher than the costs of inflation itself.

Douglas: No politician in the world has ever wanted inflation. But at the same time, there's very little the government can do about inflation, at least in the short term. 

Biswas: If the government tries to reduce inflation, if it follows a disinflationary policy. The costs of that are periods of high unemployment, and low GDP. And that's not what we are targeting right now, because this could put the economy into a recession.

The other way the government can deal with inflation is to announce a disinflationary policy in the future to which people respond with rational expectations. So, for instance, if the government announces a policy change, and if the people believe that the government is credible in its announcement, what they will do is lower purchases today, because they know that prices are going to go down tomorrow. And that means they would lower aggregate demand, and that would ease prices a little bit. Sometimes just announcing the policy helps, even if the government actually doesn't carry it through. Expectations of inflation also drive inflation. That's why we say inflation has inertia.

Douglas: Any crystal ball on how long we expect it to be at this rate, before it cools off a little bit?

Biswas: I think the biggest factor right now would be increasing production capacity, specifically, in the sectors where we are experiencing inflation. Increasing production capacity is the key. And there's no magic wand that would increase production capacity overnight. It's something that's going to happen over time. And we just have to be a little patient for it to catch up to the increased demand. And until then, we will experience inflation.

How long that period is going to be is hard to say. But if you look at the inflation rate right now, which is close to five percent, that's not too high. Nothing that economists would worry about because the U.S. has seen much higher rates of inflation back in the 70s. And even those were not hyperinflation like that in Germany or Zimbabwe.The flip side of inflation is recession and we don’t want that.

Note: While inflation during the 1970s in the U.S. averaged 6.8 percent for the decade, it spiked higher than 14 percent in 1980 before dropping off to 3.5 percent in the first half of the 1980s. 


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