Economists have long held that economic recovery would depend on recovery of the pandemic. With an increase in the number of people vaccinated, we have seen much improvement and reason for optimism regarding the pandemic.  

By important macroeconomic measures, the economy is improving faster than could have been predicted.  

Although mask mandates, new cases, and death rates have declined, we cannot be content that the pandemic is over. There are regional spikes in parts of the country, especially in those areas with low vaccination rates. With relaxation of preventive measures there is the ever-present danger of a new variant of the virus resistant to the vaccines that have been remarkably effective. With that lingering shadow over the pandemic, it is too early to declare victory.

Regarding the economy, there are some favorable macroeconomic numbers indicating recovery. By the end of 2021, GDP had increased 5.7 percent relative to the 3.2 percent decline in 2020. The US Bureau of Labor Statistics reported 431,000 new jobs for March 2022. Employment is back to pre-pandemic levels, and unemployment is down to 3.6 percent. Long dormant wages are increasing. Notwithstanding a recent dip in financial markets, they are higher than when Biden took over the presidency.

But none of this translates into optimism and contentment by the public, or bodes well for the party in power. The over-riding issue is, of course, inflation.

Inflation is far more politically toxic than recession. With recession, and, for example, 10 percent unemployment, 90 percent of workers remain employed. In contrast, with inflation, everybody buying gas, eggs, milk, and meat are angry about it. The president and the party in power are held responsible whether or not they are to blame or it is much in their control.

Inflation is defined as a generally increasing level of prices, and said to be caused by too much money chasing too few goods — demand increasing relative to supply, causing prices to rise. But this does not explain what is behind those shifting demand and supply curves.

In general, just as a recovering economy depended on recovery from the pandemic, so the current inflation is in large measure a result of the pandemic itself, and economic recovery of conditions created by the pandemic. Just as the pandemic was world-wide, so inflation is not just an American problem — it is world-wide.

During the pandemic, with social distancing and related preventive measures, economic activity declined dramatically, coming to a screeching halt in some sectors. With unemployment, demand for goods and services decreased, and many businesses shut down. Demand for oil decreased, along with its price. Flow of international trade decreased, reducing transport of goods.

With recovery from the pandemic, it is not just a matter of turning on the switch, production increases, and everything is back to normal. In particular, oil companies have been burned by the cyclical nature of the industry. It is costly to resume drilling and production. Even with the decision to increase production, it takes time to achieve the result. The notion that energy problems can immediately be resolved simply by drilling more is more political rhetoric than realistic solution. 

The war in Ukraine with sanctions on Russian oil exacerbates the problem. But oil prices were rising before the war. Higher energy prices resulting from the war will hurt Europe and other countries more than the U.S.

In addition to the time factor in resuming production of goods and services is the shortage of workers. With recovery of the economy, many in low wage sectors have opted for jobs offering higher wages and better careers, resulting in difficulty in hiring in these traditional low wage sectors.

Often overlooked in shortage of workers is simply the demographic factor. The huge Baby Boom Generation, born between 1946 and 1964 is now between ages 58 and 76. Many of those are now retired, or soon will be, adding to shortage of workers. Shortage of truck drivers restricts the transportation sector, a key factor exacerbating the supply chain, for example.

Add to this other unwelcome events that contribute to restricted supply and higher production costs, such as the current bird flu that restricts poultry and egg production. Russia and Ukraine are major exporters of small grains and fertilizer used in crop production.

So much for the supply factor — now the demand side.

During the pandemic, both the Trump and Biden administrations found it necessary for government assistance to businesses and individuals to keep the economy from totally tanking. One can question whether such expenditures could have been more efficient or effective. But there was near universal agreement among the public, and both Republican and Democratic politicians, that such assistance was immediately necessary. It clearly was beneficial to many people and businesses — preferable to a recession with its accompanying hardship.

Because of restricted economic activity, less travel, and working from home, the American savings rate actually increased.  With recovery from the pandemic, people are anxious to get out of the house, travel, and buy stuff. Even with higher prices, people are willing and able to spend money, satisfying that pent-up demand, putting further upward pressure on prices.

So a combination of restricted supply due to the pandemic and its recovery, and consumers emerging from the economic deep freeze, with money to satisfy pent-up demand, the result is inflation.

There is political motivation to blame this inflation on the federal spending that provided money that would eventually feed demand. But that spending was preferable to a deep recession. This inflation is more a supply problem — a world-wide supply problem.  

The Fed is the institution generally charged with taming domestic inflation. Its major approach is to raise interest rates that would operate on the demand side by discouraging spending and borrowing. Raising rates too much and too fast could cause recession, and would not materially affect the supply side.

There are policy measures that would help the supply side. But these are longer run propositions, and politically infeasible in the short run. 

Inflation is a world-wide phenomenon, largely a result of the pandemic and its recovery. But political reality is that the American president will be held responsible.

— John Waelti of Monroe can be reached at jjwaelti1@tds.net. His column appears monthly in the Monroe Times.