Inflation – staying or going?

Inflation – staying or going?

Inflation. Until recently I’ve not known much about it. Well, apart from that I didn’t like it. Not too much of it, anyway.

Before I get into considering whether the staggering rise of inflation is here to stay, I’ll first list the occasions when inflation is good for the economy.

Benefits of inflation:

1. If consumer prices are allowed to fall again and again because the country is becoming too productive, consumers stop purchasing goods and services in order to wait for a better deal to come along. This is called the Paradox of Thrift. The effect of the Paradox of Thrift can lead to a reduction of aggregate demand (measurement of consumer demand) and therefore decreased production, layoffs, and recessions
2. Repaying loans with money that is more valuable than the time of borrowing. This makes for a very happy debtor. This encourages more borrowing, lending and spending
3. Increased inflation could encourage more unemployed civilians to seek job opportunities. Increased employment could also create a more productive country.

The European Central Bank (ECB) has a target to keep inflation at 2% each year. Today, inflation is at 4.1%. In the USA inflation is at 6%!

When inflation rises too much the ECB will often increase interest rates. This will usually discourage borrowing and reduce spending. Christine Lagarde, president of the ECB, has said that increasing interest rates now could do more harm than good. Reputable publications, such as Money Talks from The Economist, have reported that inflation could stabilise over the next year. This is because there are two kinds of inflation at play here, persistent inflation and transitory inflation.Persistent inflation means that the staggering rise of inflation will remain. Transitory inflation means it will pass.

I have listed some of the main factors causing both persistent and transitory inflation and concluded that there are currently more factors at play in transitory than persistent. Whilst it appears the causes of transitory inflation could take until the end of 2022 to stabilise, it does look like it will happen, so hold in there!

Persistent:

1. Rise in wages – caused by employee shortages, the National Living Wage (NLW) will rise to £9.50 from 1 April 2022, and the Government also plans for the National Minimum Wage to increase – employers will no doubt pass the increase onto consumers
2. Ageing population resulting in a driver reduction of Heavy Goods Vehicles (HGV) which has caused supply chain issues – HGV driving is famous for being poorly paid and terrible working conditions and therefore it is not an appealing profession for people to join
3. Increase in cost of fossil fuels and energy – a likely cause of the Paris Agreement/Glasgow Climate Pact. The agreement and pact is an ambitious target of achieving net zero emissions by 2045 and 2050, respectively. This has been agreed upon by the 180 member states of the Conference of the Parties (COP). Also, China produces 60% of coal and recently China experienced terrible flooding which halted production.

Transitory:

1. HGV and supply chain issues – HGV drivers are scarce in numbers, absent from work with Covid-19, and are dealing with a backlog of consumer purchases. This will resolve itself once more drivers are trained and consumer demand has settled down
2. Increased consumer demand – DIY/home renovations/new homes and cars – With more people spending more time at home there is an increased demand for furniture, moving homes (moving into the countryside with space for a home office), and cars (maybe to avoid public transport and because there is less public transport in the countryside!). Once people have finished fixing up their homes, and supply chains have met increased demands, the increased costs should disperse
3. Manufacturers and factories were closed and short of employees during the height of the pandemic. This resulted in less productivity. Manufacturers and factories have reopened (for now) and production is more or less in full swing, which should help to reduce the high inflation
4. Shipping – In March 2021 a 400-metre-long vessel got stuck and caused a huge traffic jam in the Suez Canel – 12% of global trade passes through the Suez Canel. This created a huge backlog and the traffic jam has not yet fully dispersed. So, with the Suez jam combined with the increased consumer demand and supply chain issues, it’s no wonder that prices have risen expediently. However, once things settle prices should return to normal.

And there we have it. It seems to me that transitory has more factors at play than persistent. However, that is not to say that transitory holds more weight than persistent. Please let me know if you have any thoughts on the rise of inflation and if there are any more factors at play that I have not included in this article.

Article by Stephanie Anais