DO YOU NOW GREEDFLATION ? Impact on Global Economy

GREEDFLATION

CONTEXT

An increasing consensus in Europe and the US that Greedflation is driving the rising cost of living rather than just Inflation.

INFLATION — AND DISINFLATION, DEFLATION AND REFLATION

  • Inflation: Inflation (or the inflation rate) is the rate at which the general price level rises.
  • Disinflation: Disinflation refers to the trend when the inflation rate decelerates. Suppose it was 10% in April, 7% in May and 5% in June. This is disinflation.
  • Deflation: Deflation is the exact opposite of inflation. Imagine if the general prices level in June was 5% lower than what it was in June last year. That’s deflation.
  • Reflation: Reflation typically follows deflation as policymakers try to pump up economic activity either by government spending more and/or interest rates being reduced.

INFLATION – TYPES, SOLUTION

For the most part, there are two main ways in which inflation happens.

  • Either prices get pushed up because input costs have risen — this is called cost-push inflation — or they are pulled up because there is excess demand — this is called demand-pull inflation.
    • If crude oil prices went up by 10% overnight — say, because of supply disruption — then the general price level will be pushed up because energy costs have gone up.
    • Similarly, if demand goes up suddenly and far in excess of supply, then prices can be pulled up. Suppose RBI cuts interest rates sharply then buying a house is now quite affordable, since EMIs have fallen, then the sudden surge in demand for new houses will pull up home prices because new houses cannot be made immediately.
  • Inflation can be solved by – 
    • If inflation is because of excess demand, the central banks raise interest rates to bring overall demand in line with overall supply.
    • Open market operations and reserve requirements are tools used to influence the money supply.
    • Communication and guidance from central banks shape public expectations and inflation targets.
    • Macroprudential measures and supply-side policies can address specific sectors contributing to inflation.
    • The effectiveness of measures varies based on circumstances and underlying causes of inflation.

WAGE-PRICE SPIRAL

Imagine a scenario when there is a natural disaster or a pandemic and airlines start charging sky-high prices for tickets. The same holds for sellers of anything of value — water, lodging, food, etc. It is a common enough occurrence that prices go up sharply when a crisis hits. However, businesses do not bring down the market prices even when the input prices fall.

  • If corporate greed is what is leading to higher inflation then the whole monetary policy prescription appears even more unjust and ineffective

GREEDFLATION

Greedflation simply means (corporate) greed is fuelling inflation.

  • Greedflation implies that companies exploited the inflation that people were experiencing by putting up their prices way beyond just covering their increased costs and then used that to maximise their profit margins.
Higher profits can come only from:

  • higher sales (with the same profits margins)
  • higher profit margins (with the same level of sales)
  • or a combination of higher sales and higher profit margins

Greedflation in developed countries

    • Latest financial reports from the USA and Europe continue to show that firms — across the board — seem to be making more profit than what their overall sales should merit.
    • The corporate profits in the USA (as a proportion of the national income) have spiked to the highest level in the past 100 years.
    • A study by the International Monetary Fund (IMF) found that profits contributed even more than higher import prices.
  • International Monetary Fund (IMF) said that corporate greed accounts for 45 percent of price rises in the eurozone since the start of 2022.
  • Europe witnessed high inflation in 2022 (since the start of the Russia – Ukraine war) was the spike in energy costs but there was very little contribution of higher wages.

Greedflation in India

  • Net profits of 4,293 listed companies reached Rs.2.9 trillion in the March 2023 quarter. This is over 3.5 times the average quarterly profit earned by listed companies till before the pandemic of 2020
  • The average net profit of listed companies in the nine quarters of December 2017 through December 2019 was Rs.0.83 trillion.
  • Indian corporate sector has generated superlative profits in the post-pandemic period. 
  • Profits during recent times have been nearly thrice the profits corporates earned earlier.

Argument against Greedflation

    • Some Economic experts see Greedflation as a political narrative rather than a serious economic explanation of high inflation.
  • Businesses cannot arbitrarily set prices, but instead, set them based on what consumers are willing to pay.
    • Consumers ultimately determine the price of products in the market.
  • The greedflation theory in the U.S. lost ground upon deteriorating corporate profits.
  • It may not be accurate to attribute the rise in inflation solely to corporate greed.

Solution to greedflation

  • The idea of windfall profit taxes on companies: A tax imposed on such an unexpected rise in profits is called a windfall tax.
  • Adopting a more balanced and holistic approach to macroeconomic management that considers not only inflation but also growth, employment, inequality and sustainability.
  • Strengthening the independence and accountability of central banks that can conduct credible and effective monetary policy that anchors inflation expectations and prevents excessive money creation.
  • Implementing a prudent and countercyclical fiscal policy that supports public investment, social protection and redistribution without creating excessive deficits or debts.
  • Enhancing financial regulation and supervision that can prevent excessive leverage, risk-taking and speculation in financial markets without stifling innovation or competition.
  • Promoting structural reforms that can boost productivity, competitiveness and innovation in the real economy without compromising social or environmental standards.
  • Fostering international cooperation and coordination that can harmonize policies, rules and standards across countries without undermining national sovereignty or diversity.

Conclusion

    • Rising profit margins of corporations have been observed, but they represent only a small portion of the overall business landscape in the US.
    • The increase in profit margins may be attributed to the capture of market share from smaller businesses during the pandemic.
  • Rising profit margins alone do not explain high inflation, as buyers, not sellers, ultimately determine prices.
  • Greedflation is compared to cost-push theories of inflation, which attribute inflation to rising input costs.
  • Critics argue that consumer demand and competitive market bidding determine the cost of inputs indirectly.
  • The cost-push theory overlooks the market dynamics and competitive forces that influence input costs.
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