The immediate implication for inflation is that it makes no sense to wonder whether incomes will keep up with inflation. Here are two ways to think about it, which of course are different versions of the same way. First, the sum of spending is equally the sum of income. If nominal spending rises by x% because of inflation, then nominal income does too. Second, inflation is the average increase in prices, and wages are prices. Naturally inflation can be accompanied by income redistribution, with some people coming out ahead and others behind, but there is no a priori reason why any particular group should benefit, or even why there should be any correlation between which group benefits in one period and which in another.
Journalists are supposed to know this by now.
But then we see pieces like today’s today’s New York Times/Economix post by Binyamin Appelbaum, and it’s right back to square one, or maybe one-and-a-half. Granted, there is a paragraph of enlightenment:
To be clear, inflation by definition increases total income. Someone ends up holding the new money. The question is about distribution: Are workers able to secure the raises necessary to keep pace with inflation, or does the extra money simply pad profits?Other than this, though, it’s all confusion. Appelbaum keeps referring to wages as “income” and wonders whether income will keep up with prices. He also throws out comments like
If the Fed drives up inflation, prices would rise first. Even if wages follow, the very people who most need help would feel the short-term pain most acutely. It would feel something like a temporary national sales tax.Earth to Appelbaum: wages are prices.
Of course, the relationship between price inflation and nominal wage increases is a purely empirical matter, so let’s consult with uncle FRED:
The blue line is the quarterly year-on-year percentage change in the consumer price index (CPI); the red line is the corresponding year-on-year change in nominal hourly compensation. As you can see, they move largely in tandem. A few specifics:
• At first, the Volcker disinflation of 1979-82 had little effect on nominal wages; after a couple of years both plunged together, with the decline in prices somewhat outpacing the fall in wages.
• There was an extended period in the latter 1990s during which real wages (wage growth minus inflation) rose. This was due to the low unemployment of the Clinton boom; inflation during this period was unchanged.
• Other than this, the relationship is mostly a wash.
If the public, as Appelbaum quotes Shiller as saying, is misinformed about the relationship between inflation and wages, it’s the responsibility of the press to set them straight. You don’t do that by musing on whether incomes can keep up with prices or, as he does toward the end, whether global labor market conditions will cause inflation to “punish” workers.
The big distributional effect from unanticipated changes in inflation has been and always will be between net lenders and net creditors, and it is useful to explore who these people are and how big the impacts on them are likely to be. It is also true that even anticipated inflation can affect financial flows if contracts are fixed in nominal terms over long enough time periods, as in some defined benefit pensions. But wages? There is neither a theoretical nor an empirical reason to think much of anything.
Now here is the real problem beneath the problem. Net creditors, which means those sitting on a pile of financial assets whose value depends on real interest rates, suffer a one-off loss every time expected inflation goes up. If the Fed decides to boost its target, that loss will be substantial, like a one-time tax of all credit market holdings of 1-2 percent. If the runup in prices exceeds the target, which of course it could, the loss is that much greater. We are talking about a very large sum of money, and it is perfectly rational for the high net worth crowd to try to avoid it. One practical strategy is to pay or otherwise reward pundits, reporters and even economists who sew confusion. Spread the rumor that prices are one thing and wages are another. Repeat the mantra that “inflation is the cruelest tax of all”. Fill economics textbooks with endless pages about whether households fail to see that nominal wage increases are offset by consumption prices but nothing about whether they understand that consumption prices are offset by nominal wage increases. (You know: inflation is bad because I have to pay more, but my wage went up because my employer knows how valuable I truly am.)
We live in a sea of deliberate misinformation about the effects of inflation. Journalism should be the rock that stands up against the waves, not the waves beating down on the rock.