In this view, demand will eventually create its own supply, without generating too much inflation in the interim, an assumption that lies behind the plan to run a high-pressure economy without overheating.
“Economic heat does not necessary equate with overheating”, White House advisers Jared Bernstein and Ernie Tedeschi said in a press briefing earlier this year (“Pandemic prices: assessing inflation in the months and years ahead”, April 12).
Supply chain bottlenecks and the resulting upward pressure on prices are “transient” problems that will resolve themselves as price rises spur investment in new productive capacity.
By running a high-pressure economy, officials hope to capture the microeconomic benefits of a boom, particularly faster increases in employment and wages in the lower half of the income distribution, without jeopardising the macroeconomic goal of price stability.
So far this year, price rises have been concentrated in raw materials, energy and merchandise, as manufacturing has recovered rapidly from the pandemic while service businesses continue to operate with severe restrictions.
The forced redistribution of consumer and business spending has intensified ordinary recovery-related capacity pressures in manufacturing, freight transport, energy supplies and basic commodities.
As the pandemic is brought under control, policymakers hope consumer spending will resume a more normal pattern, easing some of the pressure on manufacturing supply chains and reducing inflationary pressure.
In the meantime, high prices are expected to encourage investment in extra capacity all along the supply chain, which will help stabilise prices over time, ensuring temporary inflation burns itself out.
But how realistic is the view the economy can grow its way out of supply chain problems without inflation becoming entrenched, central banks tightening policy, or the economy slowing for some other reason?
In the oil industry, the record of the last four decades implies prices will continue climbing, generating significant upward pressure on inflation, until there is a slowdown in the global economy.
Prices normally only stabilise when there is a recession or at least a midcycle slowdown in the United States and other major economies.
In the United States, steep oil price declines were associated with formal recessions declared by the National Bureau of Economic Research starting in 1981, 1992, 2001, 2007 and 2020.
Price declines in 1985, 1998 and 2015 were not associated with formal recessions but coincided roughly with mid-cycle slowdowns, evident in the purchasing managers’ index published by the Institute for Supply Management.
In recent decades, there has been no instance in which oil prices have spontaneously declined when supply caught up with demand without some form of economic slowdown.
The closest examples were probably the slumps in prices following the first shale boom (2011-2014) and second shale boom (2017-2019) in the United States, both of which ended with over-production.
In both cases, however, incipient over-production was only turned into an actual slump by a slowdown in oil consumption growth.
Slower growth in consumption was associated with an economic slowdown in China (2014/15), a midcycle slowdown in the United States (2015/16), U.S./China trade conflicts (2018/19) and the pandemic (2020).
If the global economy continues expanding briskly during 2022 and 2023, oil prices and inflation are more likely to continue climbing, rather than dissipate.
Conversely, if oil prices and inflation fall back in 2022 and 2023, the most likely trigger will be a slowdown in the business cycle, either a formal recession or a midcycle “soft patch” in growth.