Social Europe

politics, economy and employment & labour

  • Themes
    • Global cities
    • Strategic autonomy
    • War in Ukraine
    • European digital sphere
    • Recovery and resilience
  • Publications
    • Books
    • Dossiers
    • Occasional Papers
    • Research Essays
    • Brexit Paper Series
  • Podcast
  • Videos
  • Newsletter
  • Membership

Taking aim at sellers’ inflation

Isabella Weber 18th July 2023

Economists and political leaders at multilateral institutions have finally accepted profits are a primary driver of inflation.

inflation
Madrid’s conservatives named the only square in the world after the former British prime minister in 2014 but the current Spanish government has taken a different approach on inflation to what the Observer economics editor labelled her ‘sadomonetarism’ (Asqueladd, CC BY-SA 3.0)

Key officials have acknowledged that profits have been a major source of inflation in Europe—a realistic position informed by facts, rather than by the economics of the 1970s. Now that they have embraced a new analysis of what is driving inflation, the policy response should change too.

In recent months, the European Central Bank (ECB), the Organisation for Economic Co-operation and Development (OECD), the Bank for International Settlements (BIS) and the European Commission have all published studies showing that profits have accounted for a large share of inflation. But the coup de grâce for doubters came on June 26th, when the International Monetary Fund (IMF) tweeted: ‘Rising corporate profits were the largest contributor to Europe’s inflation over the past two years as companies increased prices by more than the spiking costs of imported energy.’

What took so long? The ECB president, Christine Lagarde, told the European Parliament on June 5th that ‘the contribution of profits to inflation … had gone a little bit missing’, because ‘we don’t have as much and as good data on profit as we do on wages’. Policy-makers had failed fully to appreciate the ‘transmission of the cost-push that was suffered by many corporate sectors into final prices’. But now, the problem had come clearly into view. While some sectors had ‘taken advantage to push costs through entirely without squeezing margins’, Lagarde explained, others had gone further to ‘push prices higher than just the cost push’.

Firms have been able to hike prices for two reasons, according to Lagarde: mismatches of supply and demand, where bottlenecks have prevailed, and the co-ordinating effect produced by recent mega-shocks. As Lagarde put it, ‘everybody is in the same position, we are all going to increase prices’.


Become part of our Community of Thought Leaders


Get fresh perspectives delivered straight to your inbox. Sign up for our newsletter to receive thought-provoking opinion articles and expert analysis on the most pressing political, economic and social issues of our time. Join our community of engaged readers and be a part of the conversation.

Sign up here

Spectacularly successful

This ‘sellers’ inflation’ happens when the corporate sector manages to pass on a major cost shock to consumers by increasing prices to protect or enhance its profit margins. Of course, not all firms have won equally. The bottom line is that sellers’ inflation results in an increase in total profits. This simple truth led Adam Smith to warn, 250 years ago, that profits can drive price pressures. 

Some may counter that protecting margins against cost shocks is normal corporate behaviour, leaving no reason to rethink today’s inflation. But no one denies that firms aim to protect or even expand their margins (hence ‘greedflation’ is a misnomer). Rather, the point is that, by historical standards, firms today have been spectacularly successful at doing so. Isabel Schnabel has pioneered this kind of inflation analysis at the ECB and when she was recently asked whether today’s inflation was really driven by profits, she did not mince her words: ‘If you do the macro decomposition, part [of inflation] is driven by profits, full stop. It’s a fact.’

Consider the comparison with the first oil-price shock in 1973. Back then, as the IMF shows, it was labour that managed to protect itself and fend off the shock; beyond oil itself, the increase in prices was almost exclusively driven by rising unit-labour costs and profits fell. Today, by contrast, the IMF finds that profits account for 40 per cent of inflation and, along with import prices, have replaced labour costs as the main driver.

Moreover, as the BIS confirms, real wages have fallen more than they did in past inflation episodes. ‘Workers have so far lost out from the inflation shock … which is triggering a sustained wage “catch-up” process,’ explained Lagarde.

Where are the ECB, the IMF, the BIS and other leading institutions getting these ideas? They certainly do not come from old assumptions based on the Phillips curve, ‘output gaps’ and monetary easing. Perhaps my own widely covered work played some role or people are simply taking a fresh look at the facts.

Dumping on labour

Whatever the case may be, it helps little to get the diagnosis right if the therapy remains ineffective or even harmful. As matters stand, the standard prescription for addressing inflation is still to hike interest rates, even though doing so implies higher unemployment and heightens the risk of recession and financial instability.

The IMF suggests that ‘Europe’s inflation outlook depends on how corporate profits absorb wage gains’. But there is no direct channel from rising interest rates to margin compression. An increase in borrowing costs has already increased financial risks and, if anything, reduces firms’ ability to absorb wage increases.

As some Wall Street analysts have observed, ‘price over volume’ is now a widespread corporate strategy. Instead of lowering prices and boosting volume, many companies are making up for lower volume by boosting prices; in this environment, targeting lower demand is unlikely to halt inflation.


Support Progressive Ideas: Become a Social Europe Member!


Support independent publishing and progressive ideas by becoming a Social Europe member for less than 5 Euro per month. You can help us create more high-quality articles, podcasts and videos that challenge conventional thinking and foster a more informed and democratic society. Join us in our mission - your support makes all the difference!

Become a Social Europe Member

Large corporations have learned that they do not have to pick up the bill for big cost shocks, such as the pandemic or Russia’s war in Ukraine. Nor do they even have to adapt. Like big banks during the 2008 financial crisis, they have been folded into the culture of bailouts and buck-passing.

But such behaviour will not make the economy more resilient. We should recognise the recourse to higher interest rates for what it is—a strategy to dump the costs of inflation on to labour (by suppressing wages), on to social programmes (through austerity) and on to future generations (by discouraging investment).

New strategy

Gita Gopinath, the IMF’s deputy managing director, was certainly right last month to argue: ‘If inflation is to fall quickly, firms must allow their profit margins … to decline.’ But achieving that outcome requires a new strategy aimed at disciplining runaway profits, incentivising investment, increasing productivity and encouraging firms to make money the old-fashioned way—by selling more products at fair prices.

The former British prime minister Margaret Thatcher famously declared that ‘there is no alternative’ to an unfettered market economy. In fact, the past year has taught policy-makers that there are many alternatives. In Spain, for example, a creative all-of-the-above approach has yielded an inflation rate lower than the ECB target while the growth in unit profits was more in line with unit-labour costs than in other OECD countries; and in the United States, oil released from the Strategic Petroleum Reserve helped counter inflationary pressures.

Getting the analysis right is a crucial first step. The technical economists and the political leaders at international and European institutions must now follow through with the other foot. We need policies that follow from their new understanding.

Short of that, it would be safer to pause rate hikes and do nothing than to launch yet another round of monetary tightening. Sometimes taking a step back is the best way to move forward.

Republication forbidden—copyright Project Syndicate 2023, ‘Taking aim at sellers’ inflation’

Isabella Weber 2
Isabella Weber

Isabella M Weber is an assistant professor of economics at the University of Massachusetts Amherst and the author of How China Escaped Shock Therapy: The Market Reform Debate (Routledge, 2021).

You are here: Home / Economy / Taking aim at sellers’ inflation

Most Popular Posts

Russia,information war Russia is winning the information warAiste Merfeldaite
Nanterre,police Nanterre and the suburbs: the lid comes offJoseph Downing
Russia,nuclear Russia’s dangerous nuclear consensusAna Palacio
Belarus,Lithuania A tale of two countries: Belarus and LithuaniaThorvaldur Gylfason and Eduard Hochreiter
retirement,Finland,ageing,pension,reform Late retirement: possible for many, not for allKati Kuitto

Most Recent Posts

prostitution,Europe,abolition Prostitution is not a free choice for womenLina Gálvez Muñoz
Abuse,work,workplace,violence Abuse at work: who bears the brunt?Agnès Parent-Thirion and Viginta Ivaskaite-Tamosiune
Ukraine,fatigue Ukraine’s cause: momentum is diminishingStefan Wolff and Tetyana Malyarenko
Vienna,social housing Vienna social-housing model: celebrated but misusedGabu Heindl
social democracy,nation-state Social democracy versus the nativist rightJan Zielonka

Other Social Europe Publications

strategic autonomy Strategic autonomy
Bildschirmfoto 2023 05 08 um 21.36.25 scaled 1 RE No. 13: Failed Market Approaches to Long-Term Care
front cover Towards a social-democratic century?
Cover e1655225066994 National recovery and resilience plans
Untitled design The transatlantic relationship

ETUI advertisement

The future of remote work

The 12 chapters collected in this volume provide a multidisciplinary perspective on the impact and the future trajectories of remote work, from the nexus between the location from where work is performed and how it is performed to how remote locations may affect the way work is managed and organised, as well as the applicability of existing legislation. Additional questions concern remote work’s environmental and social impact and the rapidly changing nature of the relationship between work and life.


AVAILABLE HERE

Eurofound advertisement

Eurofound Talks: does Europe have the skills it needs for a changing economy?

In this episode of the Eurofound Talks podcast, Mary McCaughey speaks with Eurofound’s research manager, Tina Weber, its senior research manager, Gijs van Houten, and Giovanni Russo, senior expert at CEDEFOP (The European Centre for the Development of Vocational Training), about Europe’s skills challenges and what can be done to help workers and businesses adapt to future skills demands.

Listen where you get your podcasts, or for free, by clicking on the link below


LISTEN HERE

Foundation for European Progressive Studies Advertisement

The summer issue of the Progressive Post magazine by FEPS is out!

The Special Coverage of this new edition is dedicated to the importance of biodiversity, not only as a good in itself but also for the very existence of humankind. We need a paradigm change in the mostly utilitarian relation humans have with nature.

In this issue, we also look at the hazards of unregulated artificial intelligence, explore the shortcomings of the EU's approach to migration and asylum management, and analyse the social downside of the EU's current ethnically-focused Roma policy.


DOWNLOAD HERE

Hans Böckler Stiftung Advertisement

WSI European Collective Bargaining Report 2022 / 2023

With real wages falling by 4 per cent in 2022, workers in the European Union suffered an unprecedented loss in purchasing power. The reason for this was the rapid increase in consumer prices, behind which nominal wage growth fell significantly. Meanwhile, inflation is no longer driven by energy import prices, but by domestic factors. The increased profit margins of companies are a major reason for persistent inflation. In this difficult environment, trade unions are faced with the challenge of securing real wages—and companies have the responsibility of making their contribution to returning to the path of political stability by reducing excess profits.


DOWNLOAD HERE

About Social Europe

Our Mission

Article Submission

Membership

Advertisements

Legal Disclosure

Privacy Policy

Copyright

Social Europe ISSN 2628-7641

Social Europe Archives

Search Social Europe

Themes Archive

Politics Archive

Economy Archive

Society Archive

Ecology Archive

Follow us

RSS Feed

Follow us on Facebook

Follow us on Twitter

Follow us on LinkedIn

Follow us on YouTube