Aviation, Understand Real Inflation.
Do you know what inflation is? Do you know what inflation is not? Where does this devastating thing called inflation come from? Is it because of inflation that our cost of living has increased so rapidly as of late? Will it get better or worse?
There is a lot of talk in the mainstream, social media, and even colleges as to what inflation is. There are talks about cost-push inflation, wage-price spiral, price inflation, Phillips Curve, etc., etc., etc..
Friends, the simple truth is that inflation is simply an increase in the money supply in any economy at a given time or over a period of time without a commensurate increase in the amount of goods and services relative to the increase in the money supply. This is a definition that we should all understand clearly; everything that follows from this must be understood with this basic framework in mind.
To help drive home this point, an example may be in order: Say there is an economy that sells only iPhones. Say that these iPhones cost $100 each. Assume that there can only be 100 iPhones that can be made each year. Also, assume that the total amount of money in this iPhone-only economy is $10,000. All things being equal (Citeris Paribus), we can see that $10,000 divided by 100 phones equals $100 per phone. Let us now say that we increased the amount of money in the economy from $10,000 to $20,000. A 100% increase in the money supply. Let us now take the same calculation as before. $20,000 divided by 100 phones equals $200 per phone.
The simple example above shows how money works in an economy. Therefore, taking this simple example we see that by increasing the money supply by 100%, without increasing the number of products — in the above case of iPhones — the price of the phones must increase. In a real economy, there are a lot more variables such as products and services, supply chain structure, national and international trade agreements, interest rates, savings, and the list goes on and on. However, the same basic principles apply. Understanding this basic principle will let us understand where inflation is coming from and how to prepare for it when we see the factors that lead to inflation increasing.
On Aviation™ Note: Inflation is an increase in the money supply in any economy at a given time or over a period of time without a commensurate increase in the amount of goods and services relative to the increase in the money supply.
In this week’s On Aviation™ full article, We share some insights that will help clear up some misconceptions about where inflation comes from. Giving the reader a better understanding of what inflation is, where it comes from, and how it’s created within an economy. Therefore, allows for a greater ability to prepare for the destructive effects of inflation, particularly if those effects are acute or prolonged over a very long time.
For additional readings on inflation and the aviation industry, please see also: ‘3 Ways Aviation Businesses Are Coping With Inflation’, ‘Inflation: Higher costs and their effects on Flight Schools’, ‘Inflation and Aviation’, ‘How The Aviation Industry Needs To Look At Inflation’, ‘Understanding Inflation’, ‘Money and Recessions.’, ‘Breaking Down Inflation.’ , ‘Inflation: Here we go again…’, ‘Stagflation: Should the Aviation Industry be Concerned?’ ‘Aviation: Producer and Consumer Prices’, ‘Aviation: Inflation, Again…’, ‘Aviation; Inflation ‘Slowed’, So Why Are Prices Still High?’, and ‘Aviation: Inflation at ‘3%’. Time to Declare Victory?’
Interventionists always blame inflation on everything and anything except the only thing that makes aggregate prices rise: Issuing more units of currency than the real demand. Seller inflation is the same excuse and fallacy as cost-push inflation. A way to confuse citizens and assign causation to something that cannot make aggregate prices rise.
Let us debunk some myths. No corporation or conglomerate can make aggregate prices rise. Some neo-Keynesians blame corporations for price increases, but that makes no sense. If corporations were able to make aggregate prices rise, the United States would experience incessantly high rates of price inflation. On the other hand, corporations are the ones that lower prices faster because they can generate economies of scale, gain market share, and produce better goods and services at a lower cost using innovation and technology. There is no single corporation that has a market share large enough to make aggregate prices rise, and even less for a prolonged period. The reader may say that corporations work as an oligopoly, but if that were the case and they were stupid enough to increase prices for no reason, they would be able to affect one or two prices for a while until competition and technology wipe them out.
Remember that aggregate prices are not the same as unit prices. If Exxon, for example, decided to increase the price of gasoline for no reason it may hurt consumers for a while, but this does not make the price of everything else go up. In the oil market, OPEC, which is a cartel of state-owned and controlled oil giants, is unable to keep oil prices above $80 a barrel in nominal terms -even less adjusted by inflation-, and yet neo-Keynesians want you to believe that a company with less than 20% market share in the U.S. economy is going to make all prices rise in unison and, even more laughable, make all their competitors do the same. Why did small, independent oil companies make natural gas and oil collapse in the fracking revolution? Competition and technology. Why did the oil giants not prevent that decline? There is no such thing as an oligopoly just because there are four or five large corporations.
Furthermore, a small group of large corporations in an open economy cannot make aggregate prices rise either, even if they wanted. Imports of cheaper goods and services would soar, be they from China or elsewhere.
If giant corporations decided prices at will, they would never run into financial difficulties, reduce their earnings, or face a declining return on invested capital, and those three events are constantly happening in the market. Consensus estimates are too high? Hey, just increase prices, beat estimates, and make profits soar. It does not happen.
Large corporations are built on delivering more and better goods at the best possible prices. You cannot have a market leader with consistently bad price structures. Large corporations are, by definition, price takers not price setters, because they would fall into enormous financial problems if they ran a massive working capital build to sell millions of units of a good that is incorrectly priced, only to find their warehouses full of unsold items, which leads to losses and even bankruptcy. Demand elasticity works everywhere, and if the amount of money in the system is the same, the seller does not have the luxury of raising prices without limit even when costs rise.
Even if there was one seller able to raise prices at will without any demand impact for a long period, something that I have never seen, that seller does not dictate aggregate prices. At all. One giant or group of multinationals, like Apple or Exxon, does not make the CPI rise nine percent. They do not even scratch the surface of aggregate prices. Because aggregate prices are set in an open economy by millions of agents and the marginal price setter is never a corporation with giant working capital requirements.
Extractive monopolies or oligopolies do not exist in open economies like the United States. Extractive oligopolies only exist in the minds of neo-Keynesians because that is exactly what they create when governments close borders to trade and direct the economy. The only way in which you can create an extractive monopoly is if the government enforces and defends it. In any other circumstance, that business would disappear in a few months.
If aggregate prices rose due to the evil works of corporations, why do those corporations not raise their prices in other currencies in other countries? Why is the same European mega-cap seeing 20% price increases in Germany and seven percent in Switzerland? It is not the same measure. One is issuing more units of currency than what the real economy demands, the eurozone, and the other, Switzerland, is not. That is why there is a Big Mac Index that tracks real inflation. McDonald’s does not raise prices; it sells affordable food. The only difference is the purchasing power of the currency.
So why do these “experts” blame large corporations for something — price inflation — they do not cause? Because the objective is to increase government control of the economy and destroy private business that are large enough to be economically independent. They do not care about small businesses because those are already asphyxiated by taxes and small and medium enterprises are easily forced to depend on the government.
Neo-Keynesians want you to believe that unit price movements are the same as aggregate prices. And it is not. The only thing that makes all prices rise in unison is the constant destruction of the purchasing power of the currency issued by a monopolistic player: the state.
Neo-Keynesians need you to believe that the quantitative theory of money does not exist so they can achieve their goal: full government control of the economy and the currency. And what happens when that goal is achieved? Scarcity and high inflation. Always. But the people close to the politicians become very wealthy. That is socialism. State enforced cronyism.
Governments never curb inflation because they benefit from it. Money creation is never neutral and disproportionately benefits the only monopolistic player in the economy: the state that issues the currency. If you think your salary is losing purchasing power due to the evil workings of a monopoly, you are right, because the only monopoly you suffer every day is the monopolistic currency issuer that grows larger and makes you dependent by destroying your real salary and your deposit savings’ purchasing power.
Daniel Lacalle, PhD, economist and fund manager, is the author of the bestselling books Freedom or Equality (2020),Escape from the Central Bank Trap (2017), The Energy World Is Flat (2015), and Life in the Financial Markets (2014). He is a professor of global economy at IE Business School in Madrid.
This article was published in the Mises Wire on July 27, 2023, with the title “Private Corporations Don’t Cause Price Inflation. Governments Do.”. The views expressed are the author’s, and do not constitute an endorsement by or necessarily represent the views of On Aviation™ or its affiliates.