Tuesday, June 01, 2004

A mainstream economist struggling with inflation in today's FT (subscription only):
The behaviour of inflation has been unusual too. When there is economic slack, inflation generally falls. But despite apparently high unemployment, US inflation is on its way up.

What ties these facts together is the behaviour of corporate managers, whose decisions are often obscured by the statistics economists watch so intently. . . .

The accounting scandals of the past few years posed a challenge. The smoke and mirrors were gone, yet investors still wanted to see earnings growth. The need to make real profits and not just be profitable on paper forced companies to cut costs. This explains the fact that during the 2001 recession, productivity growth exceeded the extraordinary trend rate of the previous four years. But cost-cutting cannot go on forever, so we can be fairly sure that this performance will not continue, but will return instead to the recent 2 1/2 per cent trend. . . .

Managers are willing to enlarge their businesses when they can foresee growth in earnings. When prices are stable or falling, it is difficult to predict revenue increases, so companies refuse to invest and refuse to hire. While employment stops growing, the need to show increases in profits does not, so managers press their existing workers to become more productive. . . .

Since they can raise prices again, managers are forecasting growing revenues so they are willing to bring on new workers. Over the next few months, we should see a steady increase in both employment and inflation.

The relationship between economic slack and inflation is subtle. For price stability to be the basis for sustained economic growth, corporate managers will have to become comfortable with a world in which prices are just as likely to go down as they are to go up. If educating them turns out to be too difficult, it may be better to live with at least some inflation.
What is great about this analysis by Stephen Cecchetti is that it fits together snugly with Jonathan Nitzan's analysis of differential accumulation (discussed in the previous post on stagflation). According to Nitzan, there are four basic strategies by which dominant oligopolistic capital seeks to achieve higher-than-average profits, i.e. "differential accumulation": [1] greenfield investment; [2] mergers and acquisitions; [3] cost-cutting; [4] and stagflation. Back in the late 1990s the strategy of choice was global M&A activity, followed in the early 2000s by cost-cutting which generated big productivity gains and no jobs. The evidence suggests the US economy has moved past #3 and on to something else -- but what? Cecchetti, without knowing it, gives a nod to stagflation; managers are now raising prices (inflation) but clearly must limit the possibility of excess production which will undercut profits (stagnation). Building new capacity (greenfield investment) seems unlikely in light of the rampant overaccumulation of capital in the late 1990s. Will global M&As rise to the occasion?


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