The Sources of Inflation Have Shifted. The Fed Needs to Take Note.
Over the past year, the sources of inflation have shifted dramatically: rather than rapid income growth, the main driver now is a lull in productivity growth — a problem the Fed’s interest rate hikes can’t do anything to solve and that is probably temporary anyway.
Jerome Powell, chairman of the US Federal Reserve, at the spring meetings of the International Monetary Fund (IMF) and World Bank in Washington, DC, US, on April 14, 2023. (Samuel Corum / Bloomberg via Getty Images)
There’s a simple but underemphasized point about inflation — inflation in general and the post-COVID inflation we’ve been experiencing in particular — that’s worth noting as we head toward the Federal Reserve’s next meeting in early May.
By definition, inflation is the difference between two numbers: the growth rate of real output per hour worked, and growth rate of nominal output per hour worked, and each of these tells us something different about the state of the economy.
Real output per hour is none other than the familiar concept of labor productivity, whose growth rate at any given moment tends to fluctuate around an underlying pace determined largely by the trend of technology. Nominal output per hour is the average amount of money businesses charge for the output of one hour’s labor. Its level is determined by the level of wages and profit markups.
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