What if We’re Thinking About Inflation All Wrong
Cancelling Christmas was, of course, a disaster. Raised in West Germany during the reunification era, Isabella Weber had been working as an economist in either Britain or the United States for the better part of a decade. An annual winter flight back to Europe was the most important remaining link to her German friends and family. But in December, 2021, the Omicron variant was surging, and transcontinental travel felt too risky. Weber and her husband drove from the academic enclave of Amherst, Massachusetts, to a pandemic-vacated bed-and-breakfast in the Adirondacks, hoping to make the best of a sad situation. Maybe Weber could finally learn how to ski.
Instead, without warning, her career began to implode. Just before New Year’s Eve, while Weber was on the bunny slopes, a short article on inflation that she’d written for the Guardian inexplicably went viral. A business-school professor called it “the worst” take of the year. Random Bitcoin guys called her “stupid.” The Nobel laureate Paul Krugman called her “truly stupid.” Conservatives at Fox News, Commentary, and National Review piled on, declaring Weber’s idea “perverse,” “fundamentally unsound,” and “certainly wrong.”
“It was straight-out awful,” she told me. “It’s difficult to describe as anything other than that.”
She gave up on skiing. The proprietor of the hotel made extra soup to cheer her up. But every time Weber checked her phone she was being mocked by a new round of critics. “The ugliness of the reaction to Weber’s op-ed is depressing,” Adam Tooze wrote, in his popular “Chartbook” newsletter. “Depressing and telling.”
In a matter of hours, Weber, who was thirty-three years old, had transformed from an obscure but respected academic at the University of Massachusetts, Amherst, into the most hated woman in economics—simply for proposing a “serious conversation about strategic price controls.” The uproar was clearly about something much deeper than a policy suggestion. Weber was challenging an article of faith, one that had been emotionally charged during the waning years of the Cold War and rarely disputed in its aftermath. For decades, the notion of a government capping prices had evoked Nixonian cynicism or Communist incompetence. And Weber was making her case in a climate of economic fear. Although the most acute disruptions of the pandemic seemed to be over—businesses were reopening and jobs were coming back—supply chains remained snarled and prices were rising faster than they had in forty years. Fringe fantasies of hyperinflation and economic doom were starting to go mainstream.
But Weber’s argument was carefully grounded in history. Price controls, she argued, had been an essential element of the U.S. mobilization strategy during the Second World War. And there were several striking similarities between the economy of the nineteen-forties and that of the present day, including very high consumer demand for goods, record corporate profits, and production bottlenecks in important areas. Back then, the Office of Price Administration simply prohibited companies from raising prices above certain levels. Violators could be sued, or worse. In 1944, Montgomery Ward, the department-store chain, refused to accept the terms of a collective-bargaining agreement—a cap on the price of labor—brokered by the government. President Roosevelt ordered the National Guard to seize the business and remove Sewell Avery, its chairman, from its headquarters.
The O.P.A. program was born of necessity. The traditional inflation-control tactic—jacking up interest rates—would have reduced employment and industrial activity, making it harder for the military to obtain the supplies that it needed to fight. Industry-specific price controls contained consumer costs while encouraging companies to boost profits through higher sales volume. The initiative worked. During the First World War, inflation had run rampant. During much of the Second, it was close to two per cent. And yet factories were operating at peak levels. If contemporary policymakers could do the same thing, Weber argued, they could limit inflation without inducing layoffs and wage cuts.
Today, in a host of key sectors, that’s more or less happening. The European Union is regulating the price of natural gas, the Biden Administration is regulating the price of oil, and the G-7 is enforcing a global cap on the price of petroleum products produced in Russia. Inflation appears to be cooling, and by nearly every measure we are living in the best labor market in a quarter century.
Weber, meanwhile, has recovered from her moment of notoriety. She’s now living something like the public-intellectual dream: shaping German energy policy one day, testifying before Congress the next. Her portrait is on the cover of a recent issue of the German-language magazine Institutional Money, the Financial Times writes about her academic work, the Washington Post wants her op-eds, and Bloomberg can’t stop hosting her on its flagship podcast. Analysts at the French investment bank Société Général and the European Central Bank now take much of Weber’s analysis for granted. In January, Krugman—who apologized to Weber as the fracas peaked—even argued that price controls might be a useful piece of inflation management after all.
This astounding turnabout reveals a transformation in how we conceptualize the global economy. If you can understand Weber’s once forbidden theories, you can understand just how dramatically Washington’s economic assumptions have changed during the past two years—and what this new thinking might mean for the country’s future.
At Joe Biden’s first press conference as President, he pitched his $1.9-trillion American Rescue Plan by announcing that he wanted to “change the paradigm” in economic thought. He told reporters that he intended to “reward work, not just wealth.” But the technical side of this new paradigm—what set of tools he’d use to bring about this change, and how those tools would function—remained unclear. His agenda broke with recent precedent in the Democratic Party primarily through its sheer size. Biden wanted more of everything: roads, bridges, housing, child care, and direct cash support to millions of households. Congress obliged. In addition to the A.R.P., lawmakers approved, in August of 2021, a half trillion dollars of new spending on infrastructure—a wave of public investment that followed nearly four trillion dollars in rescue funding deployed by Trump the year before.
Both Biden and Trump spent on this scale to avoid the elevated unemployment and stagnant wages that had hobbled President Barack Obama, whose eight-hundred-billion-dollar stimulus in the wake of the 2008 financial crisis had been enough to hold off another Great Depression, but not enough to prevent the unemployment rate from breaching double digits. Relative to the over-all size of the U.S. economy, Biden’s program was nearly double the scope of Obama’s, and structured to deliver more of its relief directly to working people.
But by the end of Biden’s first year, the sense of possibility that had accompanied his early initiatives gave way to profound pessimism. Inflation was at seven per cent, its highest level since 1982. Those who had opposed his aggressive fiscal policy—most prominently, Larry Summers, the architect of Obama’s more modest stimulus—offered an explanation. The President’s quest to “reward work” had put so much money into consumers’ hands that they were now outbidding one another for ordinary household products, pushing up prices. The basic problem, according to this diagnosis, was that the American public essentially had it too good, and would have to become poorer—spend less—for inflation to abate.
The solution pressed by Summers and like-minded thinkers was to induce millions of layoffs. By raising interest rates, the Fed could make borrowing more difficult for businesses, forcing many to cut costs by firing workers. By the spring of 2022, Summers proposed fixing inflation with a year of ten-per-cent unemployment—meaning sixteen million people without a job. “It’s quite a painful way to bring inflation down,” Weber told me. This story didn’t sit well with her, and she began to find data points that contradicted it. The U.S. spent a lot on economic relief during the pandemic, but so did other countries, including Japan, where inflation peaked at just 4.3 per cent. If too much government spending were the problem, why weren’t all of the big spenders getting hit similarly hard? And if excessive household wealth were the key driver of inflation, you would expect the prices of consumer goods to rise more or less in tandem, as people bought more of everything. Instead, most inflationary pressure came from large spikes in the prices of specific products and commodities, such as natural gas. Were households devoting every cent of their stimulus checks to higher thermostat settings?
To Weber, people like Summers were looking at the situation from the wrong side. The focus ought to be on sellers, not buyers. The pandemic had upended global supply chains, making it harder for corporations to acquire the stuff they needed to make their products. This should have squeezed their profit margins. Instead, as the economy began opening up, corporate profits were wildly outpacing growth in consumer spending power.
Here’s an example. Semiconductor chips are the basic building blocks for electronic equipment. When covid lockdowns and a string of temporary factory closures led to global shortages, the price of each chip began to rise, as did the price of everything else that used them. This proved especially troubling for the automobile market—a new vehicle can require as many as three thousand chips. As you’d expect, new cars got more expensive. So did the consumer alternative, used cars, which, in the first six months of 2021, jumped in price by nearly thirty per cent. But Weber argued that carmakers were raising prices far beyond what was necessary to cover the more costly chips. By 2022, the ongoing chip shortage had resulted in the fewest annual sales of new cars in more than a decade. Still, profits were up—car companies posted their best earnings in six years.
In a recent paper, Weber writes that the chip shortage established a “temporary monopoly” that allowed automakers to “raise prices without having to fear a loss in market share.” And it wasn’t just chips. Analyzing transcripts of company earnings calls, Weber concludes that firms in a variety of industries knew they could get away with gouging customers, who were already primed by the chaos of the pandemic to expect price hikes. Crucially, firms weren’t worried about losing customers to competitors; because of the supply bottlenecks, competitors would also be raising prices. Weber calls this dynamic “sellers’ inflation,” in contrast with the traditional model of inflation, in which an excess of consumer purchasing power is to blame.
The higher upstream the supply disruption, Weber has noted, the greater the ultimate impact on consumers. Raise the price of electricity or oil, for instance, and suddenly everything becomes harder to make or move. The same is true for chemicals, metals, lumber, or any of the basic commodities required to produce more complex products. If a government could somehow prevent the price of these magnifiers from getting out of hand, it could stave off inflation.
In February, 2022, Weber tried her price-control pitch again. She presented a detailed scheme for regulating the price of natural gas in Germany: households and businesses would be guaranteed a limited supply at an affordable, government-controlled price. Anything they burned in excess of that quota would be subject to the soaring market price. (Producers of natural gas would receive government subsidies to make up for lost profits.) She was again pilloried online. If producers have the ability to raise prices irrespective of consumer demand, why didn’t they do so all the time? Weber argues that they sometimes do—but that the pandemic had spurred just about everyone to do it at once.
We got a huge reaction from economists in Germany, overwhelmingly negative, even from people who were vocally on the left and later became supporters,” Weber recalled. “But we were invited to present the plan in Parliament, and there was a very large attendance, including from the Social Democratic Party—these people said they were getting a lot of feedback from constituents and this is a serious proposal that we should consider.” German labor unions, in particular, began to come around. A functional price-control program, labor leaders recognized, would be better for workers than a round of interest-rate hikes, which amounted to a direct attack on wages.
And then Vladimir Putin invaded Ukraine. Almost overnight, the world’s energy infrastructure had to be rewired. The U.S. imposed economic sanctions, Western investors fled Russia, and Putin cut off the flow of Russian natural gas to Europe. The price of energy futures exploded. The price of natural gas had already been elevated, but in 2022 the cost for a typical German family to heat their home almost tripled.
The onset of war in Europe marked the beginning of a new phase for the global economy. Weber had been arguing for months that the supply shocks of the pandemic were akin to those typically seen in war. Now an actual war had arrived, and the resulting economic dislocation was difficult to interpret as a case of flush consumers spending the economy into oblivion. It was hard to see how the orthodox approach—increasing unemployment through higher interest rates—would help solve the problem. In mid-September, Weber received an urgent note from the German Ministry of Economic Affairs. Would she be interested in serving on an official government commission to contain gas and heating prices? She took the job, and, within a few weeks, the commission had settled on her price-control plan as the solution. “In a strange way, the initial backlash to our proposals had been so tremendous that everyone knew we had come up with the idea, which meant that we didn’t lose credit for it,” she told me.
The German “price brake” is currently scheduled to run through April, 2024. After almost four months in operation, inflation in Germany fell to 7.4 per cent, the first time that it had dipped below eight per cent in half a year. And Germany’s example seems to have encouraged broader initiatives. In February, the European Union began implementing a separate price cap on natural gas that applies to the entire Eurozone. Weber’s fundamental point that corporate profits are a key driver of today’s inflation is now openly embraced by the establishment on multiple continents. Researchers at the Kansas City Federal Reserve recently concluded that corporate price markups may have accounted for more than half of the inflation experienced by the U.S. in 2021. Weber’s ideas have shifted from “truly stupid” to sound economic practice, supported by an ideologically broad coalition.
On paper, the German price brake is a modest initiative. (According to current estimates, it will cost less than fifty billion euros.) Still, a relatively small outlay that changes the way commodities are produced can have tremendous downstream effects; if you lower the price of energy, you can lower the price of everything produced using energy, and transform household finances without ever cutting a stimulus check. Similar programs could be developed for any durable material essential to manufacturing processes, such as steel, copper, or lithium for batteries.
Policymakers don’t need to wait until things go wrong to try to stabilize them—they could instead take proactive steps to insulate important sectors from shocks. The Biden Administration is now trying to do just that. Last summer, it began selling oil from the U.S. Strategic Petroleum Reserve and issuing price guarantees to drillers in return for expanded production. Meanwhile, Congress passed the Inflation Reduction Act and the chips and Science Act, which, combined, provided six hundred and thirty billion dollars for domestic microchip factories, wind and solar power, scientific research, and an electric-vehicle program that subsidizes the entire E.V. production chain.
There’s a coherent, unified energy strategy at work here. Biden has been helping households manage short-term fossil-fuel costs while attempting to lower long-term fossil-fuel demand by expanding the supply of electric vehicles and green energy. Consumers aren’t being punished with high prices today, and they will be offered lower prices on cleaner vehicles in the future. You can call this climate policy, foreign policy, or industrial policy—regardless, as a deliberate demotion of the market in favor of public economic management, it has a Weberian aura. Biden and Congress have decided not to let individual self-interest, consumer choice, or market competition determine the course of energy and manufacturing policy. They are quite straightforwardly attempting to reshape an industrial sector for the sake of other democratic goals.
Parts of the economy have always worked this way, to different degrees. The U.S. government has been subsidizing agriculture since the nineteen-thirties, and energy development since the First World War. The government helped build railroads and develop the early Internet. It owns Amtrak and built the highways that carry our cars, and it guarantees the money that ordinary people store in banks. But, starting in the late nineteen-seventies, mainstream economists and policymakers began to view these efforts as outliers and embarrassments. “The vision of public investment that had energized the American project in the postwar years—and indeed for much of our history—had faded,” Jake Sullivan, Biden’s national-security adviser, said recently. “It had given way to a set of ideas that championed tax cutting and deregulation, privatization over public action, and trade liberalization as an end in itself. There was one assumption at the heart of all of this policy: that markets always allocate capital productively and efficiently.”
For nearly half a century, the Federal Reserve has embodied these ideas. If the central bank could manage the economy through interest-rate movements, then policymakers could let the market take care of everything else. There would be no need to decide which energy resources to develop, or which industries to strengthen. The process of supply matching demand according to the currents of consumer choice would insure that the economy automatically adjusted to the public’s preferences.
This happy denouement hasn’t arrived, which is what makes Weber’s work so critical. She shows policymakers how they might move beyond the Fed and, by doing so, open up new ways to address different kinds of problems. Late last year, the G-7 implemented a global price cap on Russian oil—an effort to keep Russian energy flowing to developing nations that rely on it while limiting the Russian government’s ability to profit. In the first few months of 2023, Russian oil revenues were down forty per cent. Weber particularly admires the enforcement mechanism: any ships that purchase Russian oil above the G-7-mandated price will not be eligible for insurance. “That’s exactly the right principle,” she told me. “You don’t create some global board of price regulation, which will be guaranteed to fail. You work with the existing market infrastructure.”
She’s also enthusiastic about a proposal from the New York attorney general’s office to strengthen the state’s price-gouging regulations. The new rules would draw particular scrutiny to price increases of ten per cent or more during a period of “abnormal market disruption.” Critically, this threshold would apply not only to consumer prices but also to price increases further up the supply chain. If such a disruption caused a baby-formula shortage, for instance, retailers could be fined for raising the price of baby formula on the shelves, and baby-formula producers could also be sued for raising the wholesale price charged to retailers. Zephyr Teachout, the antitrust lawyer who spearheaded the proposal, invited Weber to submit formal comments to improve it, and Weber has been promoting it on her speaking tours across Europe as a promising experiment in taming supply-shock inflation.
All of these efforts might be derailed. A concerted push from China could undercut the price cap on Russian oil; a backward-looking Supreme Court could prohibit just about anything; sheer political exhaustion could take hold. The increased willingness to accept economic heresies during a crisis often fades as the immediate threat dissipates. But Putin’s invasion of Ukraine is unlikely to be the last major economic shakeup of this generation. If every shock is greeted with high interest rates and high unemployment, the result will be greater political instability and even greater economic dislocation. “There will be more shocks,” Weber told me. “And the research has become impossible to ignore. We are finally trying to develop a stabilization policy that grapples with what is really happening in the economy—instead of what the old textbooks say should be happening.”