According to the economic hypothesis known as wage-push inflation, rising wages cause inflation. According to the argument, businesses will increase the cost of their finished items as a result of these higher wages, which could lead to inflation.
Let’s examine the economic theory of wage-push inflation in more detail to see how it functions.
Examples of Wage-Push Inflation and Their Definition
The general increase in prices brought on by rising wages in society is known as wage-push inflation. Companies often increase the cost of their final goods and services in response to wage increases. Inflation results from the general price level rising as numerous things become more expensive. Workers become aware that their wages do not buy as many products and services as they once did as general price levels rise. A spiraling wage-price situation results from workers requesting hikes.
What Causes Wage-Push Inflation?
There are a number potential causes of wage-push inflation, in principle. One is a result of unions negotiating defined wage increases for their members at predetermined intervals. The cost of the finished items at merchants may increase as a result of unions negotiating greater salaries for its members, which could lead to inflation.
A new industry that may drastically raise pay to attract talent is another factor contributing to wage-push inflation. The pay for many positions may increase if other businesses raise their salaries to compete with the new industry. As a result, businesses might charge consumers more for their finished products, which would boost the price level. It’s possible to classify this as wage-push inflation because the price level rose as a result of growing earnings.
Is it typical for wage increases to cause inflation?
Since the inception of wage-push inflation, research has refuted its proposed function as an inflationary driver. Higher prices cause higher wages rather than higher incomes leading to higher prices and inflation. 3 In other words, wages do not drive up prices; rather, it is the reverse.
Alternately, a more widely held theory that is supported by evidence contends that inflation is brought on by excessive monetary expansion. The quantity theory of money is a well-known economic theory that supports this.
Wage-Push Inflation Alternatives
There are a number of inflation theories that are considered as credible explanations for why inflation happens, although wage-push inflation has little evidence to support them.
Financial Policy
One popular view of inflation holds that central banks fuel it by expanding the money supply, which lowers interest rates. As a result, borrowing money to pay for goods and services is made simpler for businesses and customers. The overall demand for goods and services will rise as more enterprises and individuals make purchases. Due to increased competition for scarce products and services, prices increase and inflation follows.
Provider Shock
A supply shock is another factor that causes inflation. Natural disasters or high pricing for raw materials might temporarily decrease total supply, which can result in inflation.
expectations of consumers
Finally, inflation is influenced by expectations. People and businesses will bargain for greater pay or ask for automatic price hikes to be included into contracts if they expect higher pricing.
Historical Case Studies
There need not be simultaneous occurrences of each of these hypotheses for inflation to exist. A combination of these three factors does, however, occur occasionally.
For instance, the inflation rate was 6.8% year-over-year in November 2021. This was brought on by a mix of supply chain shocks, higher consumer inflation expectations, and increased aggregate demand brought on by economic stimulus packages and the Federal Reserve’s expansionary monetary policies.
Similar circumstances occurred in the late 1960s and early 1970s, at which time there was monetary expansion, a supply-side crude energy crisis, and higher consumer inflation expectations.
