“Furious avarice which, with no thought for the human race, hastens to its own gain.” So the Roman emperor Diocletian described inflation, in his edict of 301 C.E. as he set the maximum prices for more than a thousand goods.
Without the benefit of modern economists, Diocletian was unaware that the rising prices were due to the dislocations caused by a half-century of civil war, barbarian invasions, plague, the drain of precious metals for eastern luxuries and the debasement of the currency.
The western world had to learn a similar lesson in the early 1970s, with energy price squeezes, the deteriorating US balance of payments and the end of convertibility of the dollar to gold. Attempts at price and wage freezes failed, and caps on oil and gas prices led, predictably, to shortages.
Petrol station queues are the iconic image of that era. Stagflation married economic recessions with rising prices, a challenge to prevailing economic orthodoxy.
Inflation was thought to have been conquered after the early 1980s. Independent central banks, strict monetary policy, weaker labour rights, globalised supply chains, free trade and the rise of China as the world’s low-cost manufacturing centre all played a part.
Inflation rates in Europe hovered at a target of about 2 per cent during the 2000s and frequently fell to around zero after the global financial crisis. The concern then became Japan-style deflation and economic stagnation.
2021 dramatically reversed this picture. Year-on-year inflation in November was 6.8 per cent in the US and 4.9 per cent in the eurozone. Travelling around the US gives vivid evidence: unavailable hotel staff, expensive food, gaps on shelves and Covid-19 testing almost inaccessible.
Global commodities are at the forefront. During the past year, liquefied natural gas prices tripled, coal doubled, oil was up 50 per cent, aluminium rose by 40 per cent and copper by 25 per cent. European electricity prices hit record levels, forcing industries to halt.
Asset inflation is also prominent, with the S&P 500 stock index gaining 27 per cent over the year. In dollars, the price of oil rose 50 per cent over the course of 2021, yet in Bitcoin, it fell 6 per cent. One Bitcoin would have bought 673 barrels at the end of December, compared with 635 barrels at the start of last January.
Now, we are not in 1970s-style stagflation: quite the opposite, as the economy is booming. The shortages of goods in western countries are shortages of affluence, and trivial compared to those in Venezuela, Lebanon or the former Soviet Union towards its end. But the factors that delivered low inflation are, at least temporarily, in reverse.
The immediate driver is the pandemic. An unprecedented slump in travel and work was followed by a surge that was almost as striking. Government relief programmes put money in pockets; this has been spent on physical goods more than services, driving up the costs of materials and shipping.
Health restrictions have worsened maintenance backlogs and bottlenecks: 2,200 flights were cancelled worldwide on Monday over lack of aircrew. Employees have been more willing to leave their jobs for better conditions and higher pay, amid falling unemployment and more acceptance of online working.
Increases of 10 per cent to 15 per cent for steel, field staff and drilling rigs will hamper a rise in shale oil output next year. Even though oil prices have slipped back since late November, US President Joe Biden’s administration will continue to put pressure on Opec+ to raise production.
In an echo of Diocletian, Democratic senator Elizabeth Warren, who knows better, wrote to American oil companies that “these price increases are being driven by energy companies’ corporate greed and profiteering”.
New energy is affected too: supply chain issues and higher polysilicon prices have raised solar photovoltaic module prices by 50 per cent, after a decade of steep declines.
But longer-term factors are at play too: rising hostility to migration that causes labour shortages and a hankering for “managed trade” to protect favoured constituencies. The era of free trade expansion may have ended, with rising Sino-American hostility, the US refusal to join the Asian trade pact, which the country itself had orchestrated and the absurd morass of Brexit.
The experience of the slow recovery after the 2008-09 financial crisis, a decade of near-zero interest rates, and the massive pandemic-induced stimulus programmes have combined with the heterodox economics of Modern Monetary Theory to raise comfort in high levels of government spending.
As the century moves on, climate change will cause more damaging weather events, requiring greater resilience and spare capacity, and unpredictably shutting down energy systems, mines, ports, roads and railways.
Meanwhile, the push for a low-carbon economy means the early retirement of polluting but still productive assets such as coal-fired power plants and diesel cars. Despite rising power prices, Germany closed three of its last six nuclear stations on Friday in fulfilment of its ideological anti-nuclear policy. Restrictions on investment in fossil fuel production have so far run ahead of falls in demand.
The green transition will also demand enormous quantities of materials such as rare earth minerals, copper, silver, tin, lithium, cobalt and nickel. These are often mined or processed in a very limited number of countries, particularly China. Attempts to “reshore” production of future energy systems such as batteries and electric vehicles in the US and Europe will raise costs.
Still, there can be a happy medium between persistently higher inflation and recession. Government choices about spending and money creation will be crucial.
Over time, supply chain frictions will ease and energy costs will moderate as expanded and improved low-carbon systems are used at scale and critical bottlenecks are overcome. Intelligent government action to improve productivity will prove superior to imperial edicts.
Robin Mills is chief executive of Qamar Energy and author of The Myth of the Oil Crisis