Context:
- There is a growing consensus across the world that corporate greed is the new villain in town, spiking inflation even as workers get doubly penalised by low wage increases and higher interest rates. How far is this true? What are the policy implications? And is India also witnessing greedflation?
What is inflation — and disinflation, deflation and reflation?
- Inflation (or the inflation rate) is the rate at which the general price level rises. When it is reported that the inflation rate was 5% in June it implies that the general price level of the economy (as measured by a representative basket of goods and services) was 5% more than what it was in June 2022.
- There are two other key terms: disinflation and deflation.
- 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. In other words, disinflation refers to a period when even though prices are rising (or inflation is happening), it is happening at a slower rate each passing month.
- 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 typically follows deflation as policymakers try to pump up economic activity either by government spending more and/or interest rates being reduced.
What causes inflation?
- 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 a 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 and you and all your friends find that 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.
How is inflation solved?
- If inflation is because of excess demand, the central banks raise interest rates to bring overall demand in line with overall supply.
- However, oddly enough, if inflation is due to cost pressures, even then the central banks raise interest rates. Of course, raising interest rates does nothing to boost supply. Still central banks do what they can: contain demand because that is all they can do. The idea is to prevent something called the wage-price spiral.
What is the wage-price spiral?
- If prices go up, it is natural that workers will ask for higher wages. But if wages go up, it only fuels the overall demand, while doing nothing to boost the supply. End result: inflation surges further because while a worker has more money, so does his colleague. When they go to the market then the only thing that changes is the price of the good — in other words, inflation rises.
- Raising interest rates slows down overall economic activity and demand, often leading to job losses. Through this rather unjust and iniquitous method, the central banks prevent a wage-price spiral and consequent inflation.
- But what if prices were going up not because workers were getting higher wages but because their masters — the companies — were making more profits?
- Imagine a scenario when there is a natural disaster or a pandemic and airlines start charging sky-high prices for tickets. 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.
- To an extent, this is understandable. If the input costs have gone up, a businessman or a company will be forced to raise their prices otherwise they cannot sustain their business. In such a case, higher sales in terms of rupees do not lead to higher profits because even the input costs have increased.
- But what if a crisis reveals something completely different? What if a crisis turns into an opportunity for businesses to make what are called supernormal profits? This can happen when the price mark-up is far in excess of the increase in inputs. It can also happen when 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 than imagined previously.
What is Greedflation and is it happening in developed countries?
Greedflation simply means (corporate) greed is fuelling inflation. In other words, instead of the wage-price spiral, it is the profit-price spiral that is in play.
In essence, 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. That, in turn, further fuelled inflation.
In the developed countries — in Europe and the US — there is a growing consensus that greedflation is the real culprit.
Scenario in India
The 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. The pandemic, it seems, has done good to corporate profits.
It is interesting to note that the continued high profits can’t be because of increased formalisation anymore. If the gains from the formalisation of the economy were the result of a more efficient tax regime under GST and the fatality of the shutdown delivered to the vulnerable, then those gains are now a thing of the past.
Higher profits then 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
So what is contributing to higher profits?
Sixty per cent of the growth in net profit can be attributed entirely to the increase in profit margin. The increase in sales contributed an additional 36 per cent and the rest was a bonus from a combination of the two.
Do these higher profits point to the existence of greedflation in India?
There is a very good chance that corporate greed also played a role in spike the inflation rate in India.
Source: Indian Express
