SYLVIE DOUGLIS, BYLINE: This is PLANET MONEY from NPR.
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DARIAN WOODS, HOST:
Here's a question that we've been getting in the PLANET MONEY inbox - which, by the way, we do read, so please keep them coming. The question goes like this - can we blame inflation on corporate greed? Or another version of the question - corporations are making huge profits, and so why do they need to raise prices? Can they just not do that? Sure. But corporations have always charged more when they could when people would keep buying. So why would greed lead to inflation now?
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ELIZABETH WARREN: Prices are up at the pump, at the supermarket and online.
WOODS: Senator Elizabeth Warren is particularly vocal about this. Here she is speaking at a Senate subcommittee in December.
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WARREN: One reason for this price gouging is that fewer and fewer markets in America are truly competitive.
WOODS: Markets are less competitive. More and more companies have tried to merge into bigger companies over the last couple of years. Corporate profits have hit these 70-year highs, and inflation is at 40-year highs. So is this all connected?
Hello, and welcome to PLANET MONEY. I'm Darian Woods, co-host of PLANET MONEY's shorter daily podcast, The Indicator. We've got two indicators for you today. We look into one potential cause of inflation - corporate greed and corporate power - and then a solution to inflation - interest rates. The Federal Reserve just started raising interest rates, so we will figure out how mortgage rates get set and how that rate hike changes things, like what we end up paying for housing. After the break, we'll pick it up with the corporate greed question.
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WOODS: There is a well-known saying that you don't want to see how the sausage gets made. And this is particularly true in the world of capitalism. Businesses are jacking up prices everywhere from gas stations to supermarkets. And we're seeing especially big jumps in the price of meat. So we thought, what better place to learn about the current state of price rises than a visit to a literal sausage factory?
SEAN SMITH: So we've got beef, pork, combined spices.
WOODS: Sean Smith is the director of sales and marketing at W.A. Bean & Sons. That's a meat purveyor based in Bangor, Maine.
SMITH: There you go. It's going to turn into more of a batter. It'll come from the grind and go right into the linker.
WOODS: The reason we wanted to talk with Sean is because meat prices are rising especially fast - so much so that Joe Biden used the meat industry as an example of inflation and corporate greed in his State of the Union speech earlier this month.
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PRESIDENT JOE BIDEN: You got four basic meatpacking facilities. That's it. You play with them, or you don't get to play at all, and you pay a hell of a lot more - a hell of a lot more because there's only four.
WOODS: A hell of a lot more because there's only four. So we wanted to test this theory - is higher price inflation caused by corporate greed in uncompetitive industries - these markets with just a few big, powerful corporations? Now, of course, the meat industry is only a tiny slice of the overall economy. But if there's anywhere where companies can drive inflation by greedily raising prices, it would be the meat industry with those big four companies dominating the market. In some regions, farmers or butchers don't really have a choice about which company they use for their meat processing. That is a monopoly. And economic theory shows that, yeah, if you don't have a choice about who to buy from when there's a monopoly, prices will be higher. Sean Smith's company, W.A. Bean and Sons, buys meat from these big suppliers at higher and higher prices.
SMITH: I mean, it's just skyrocketed. It's beating our heads against the desk every day now, you know, trying to get a good number out to our customers.
WOODS: So we thought Sean would be pretty well-placed to see what's happening. How much of rising prices, like in meat, is greed from monopolistic meat companies? Or is it just what you'd expect from the pandemic?
SMITH: Vendors being shut down, providers being shut down, not being able to get raw materials - you know, pandemic issues.
WOODS: And that included these really serious labor problems. Thousands of meatpacking workers got sick. Many died of COVID-19 early in the pandemic, and plants had to shut down. So these are very real pressures on the industry that, of course, led to higher prices. But Sean does also mention how the big meat suppliers do keep wholesale prices high for meat purveyors like his business.
SMITH: The big dogs in this industry have always kind of put a stranglehold on the little guys, and that's what's made it very difficult for, you know, a business like W.A. Bean & Sons to stay alive with rising costs across the board.
WOODS: But, I mean, that would have been a problem prior to the pandemic as well, right?
SMITH: Oh, God, yeah. This is nothing new - nothing new.
WOODS: And that brings us to a fundamental tension about the story of corporate greed causing inflation. Yes, businesses are often greedy, but does the sudden jump in inflation mean that corporations suddenly saw an uptick in greediness over the last two years?
FIONA SCOTT MORTON: The corporate greed piece is - economists don't use that terminology.
WOODS: This is Fiona Scott Morton, an economist focused on competition and antitrust at Yale University.
SCOTT MORTON: We say that firms are maximizing profit. Now, is that the same thing? Close - it means they're going to take every dollar that they can under the law. Did the profit-maximizing behavior of firms suddenly take a jump up in 2021? I don't have any evidence that that's the case. I haven't seen anyone argue that or model that. It doesn't seem very logical to me.
WOODS: Fiona pours cold water over the idea that these major leaps in inflation that we're seeing all across the economy are largely caused by uncompetitive markets.
SCOTT MORTON: When we think about the underlying causes of inflation, the big one is going to be the money supply, along with really unusual conditions such as a shortage of semiconductors that raises the price of cars.
WOODS: In other words, those really low interest rates, the government spending and also the supply chain issues that have been gumming up the economy for the last couple of years, those are the core underlying causes. Fiona says that monopolistic companies being greedy is not a large driver of inflation throughout the economy right now. And yet, Fiona is very clear that she does not agree with the opposite conclusion that uncompetitive markets had nothing to do with big price rises recently.
SCOTT MORTON: If somebody were to say the price increase in meat because of the pandemic has nothing to do with the market structure of meat, I actually think that's very unlikely to be true. I think the market structure of meat is for sure affecting how shocks are passed through.
WOODS: Take industries that are more concentrated, that have fewer players in them, like the meat industry. They might jack up prices higher than competitive industries during a pandemic.
SCOTT MORTON: In a concentrated market, one firm could announce it's going to raise prices because of inflation. And its rivals might look at that and say, oh, this is a good excuse to raise prices. They're raising prices, so we should match. And we should announce we're raising prices also. We call this tacit collusion. And in a setting like this one, where inflation might be giving firms permission to raise prices and then they follow each other, that could cause price increases.
WOODS: The standard definition of collusion involves businesspeople conspiring in the shadows, agreeing to keep prices high so that they don't have to compete with each other. And that is clearly illegal. But tacit collusion doesn't involve any actual conversations between companies, so it is much harder to prove and to prosecute.
SCOTT MORTON: So that's one possibility. I have not studied this. I don't have any sense of what the empirical evidence is, but that's a theory that I have seen out there.
WOODS: Now, Fiona raises a second point. Supply chains where there's just a few players may end up with bigger disruptions during a disaster, which could lead to higher prices sometimes. It's not about greed, per se. It's about resilience. So take the meat industry again. If you have one larger slaughterhouse instead of five small ones, then a single COVID outbreak might cause all meat production to stop in that one large slaughterhouse. But with more slaughterhouses, that risk is spread out.
SCOTT MORTON: So for those kinds of reasons, we think that competitive markets are generally more robust and stable and might do a better job at handling unforeseen shocks like COVID.
WOODS: So bottom line - companies raise prices when they can. That's what companies have always done. And what keeps them from doing it is usually competition. But even when we have uncompetitive markets like in the meat industry where prices are high, that is not the big driver of inflation in the economy right now. But that does not mean that it is a good thing to let monopolies keep their monopoly power. Fiona says it is good public policy to crack down. That means scrutinizing mergers, investigating possible collusion and splitting companies if needed.
SCOTT MORTON: Is it a good idea to do? Absolutely. Because it brings down prices in general because markups are lower when there's more competition. It raises quality. It raises innovation. It increases productivity. It increases the efficiency of the economy. So there's many, many ways in which antitrust enforcement and competitive markets benefit consumers. More vigorous antitrust enforcement is a long-run project. It's not going to change prices in 2022.
WOODS: As for Sean Smith at the meat purveyors, he says, yeah, he'll always root for the underdog. But he doesn't begrudge the big meat suppliers.
SMITH: They have put themselves in a position, and they feed a lot of people, and they employ a lot of people. And I respect the heck out of that. Trust me, I'm not a hater of capitalism by any stretch of the imagination (laughter).
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WOODS: For now, Sean and his company will be going line by line on every meat order, trimming costs and trying to keep ahead of massive price rises. So we showed you how the sausage was made in the first half; now an inflation fighting plan from the Federal Reserve - raising interest rates. Adrian Ma is going to join me, and we'll find out how the interest rate sausage gets made in the second half - except, like, with fewer intestines. That's after the break.
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WOODS: Last week, we had some of the most significant but also totally unsurprising economic news. The Federal Reserve, the U.S. central bank, raised interest rates.
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JEROME POWELL: Today, in support of these goals, the FOMC raised its policy interest rate by one-quarter percentage point.
ADRIAN MA, HOST:
So what's that mean? Well, as a result, car loans, business loans, mortgages, all these things are going to become a little bit harder to afford. And the theory is that will result in fewer people wanting to get loans. And with fewer loans being made, that'll slow down spending in other parts of the economy. And if this Rube Goldberg contraption of monetary policy works as desired, that would mean less pressure on businesses to raise prices and reduce inflation.
WOODS: The theory is that if you raise interest rates or make it more expensive to borrow money, then people borrow less and spend less. And this matters if you, for example, want to take out a loan. Like, maybe you want to buy a house. You need to know what this means for your mortgage rates. For the Fed to actually have an effect on inflation to affect everyday people, it needs for its decisions to travel down these metaphorical pipes of the financial system and hit everybody, everyday people. And some of the plumbers of that pipe, you know, the people who get you your loans, they're mortgage brokers like Lindsey Casher.
LINDSEY CASHER: Hello.
WOODS: Hello, Lindsay. How are you?
CASHER: I'm doing well, thank you. How are you?
WOODS: Lindsey works for Stratton Mortgage. She's a self-described introvert who loves to help people. So every morning, she starts her day the same way. She brews a coffee, adds in her favorite creamer.
CASHER: Coffee mate Italian sweet cream.
MA: Ah.
CASHER: It's pretty good.
MA: Coffee in hand, she sits down at her home office, and with her dual monitors fired up, she reads the latest industry reports about what happened the previous day in the mortgage market.
WOODS: Lindsey's job is to shop around banks and other lending companies. She's trying to find the best match for her customers - a good bank with the lowest interest rate.
CASHER: That's the, you know, price you're paying to borrow money. And that is what everyone is very focused on.
MA: She'll get on the phone, talk with homebuyers, giving them estimates for what kind of interest rates she can get them on a home loan. And for the past couple of years, those calls have been pretty good news.
CASHER: Well, yeah. I mean, the past two years - I think back and, you know, 2020, it could have been a blanket statement, right? It's like, it's a good idea for everyone to refinance because there are historically low rates.
WOODS: Of course, those historically low interest rates were not to last forever. The Fed has been dropping all kinds of clues that its interest rates were going to soon rise, and the banks took notice.
CASHER: January to now, I mean - it was very stressful (laughter). I'm not going to lie.
MA: Yeah. So Lindsey has been pretty busy. And to better understand the source of her stress, we thought we should probably understand how mortgage rates are actually made up. So how does the Fed yanking on one interest rate lever flow through the pipes of the financial system until it pops out the other end as a number on one of Lindsey Casher's computer screens? For perspective on that, we talked with Yiming Ma, who is an assistant professor of finance at Columbia University.
YIMING MA: Additionally, the Fed has always has just this one rate, which is very short-term. So it's like a one-day rate.
WOODS: And that rate is really important for the financial system because the Fed is like a bank for banks. Just like we get a little bit of interest when we put our money in a savings account, the banks also get a little bit of interest when they leave their money with the Fed. A lot of banks lend their excess cash overnight to the Fed.
MA: Because if you're a bank, you want enough money on hand to, you know, cover customer withdrawals and that sort of thing. But if you've got extra, you want that to earn at least a sliver of interest. Now, in case you're thinking of using the Fed as your bank...
MA: It's not an interest rate that you and I can access. It's really just what the banks are earning on their deposits with the Fed.
MA: The big question is how all this gets transmitted to the rest of the economy. Basic, basic - the Fed's actions affect all kinds of weird and wonderful financial indices that can influence the mortgage rates you get.
WOODS: So take the big one, the short-term interest rates the Federal Reserve pays out to banks overnight. When that goes up, banks now get a better rate for this super-safe arrangement - they lend to the Fed. And that usually means that if you or I want a home loan, then we have to say, all right, all right; we will also pay more for you to lend to us for our mortgages. And, of course, we will pay you more because, you know, we're not the Fed.
MA: And, for that mortgage rate, Yiming says the banks consider the riskiness of the loan and the length of the loan. So first, the loan's riskiness.
MA: If you're more likely to default, you need to pay a higher rate because banks need to be compensated for when you are defaulting and you cannot pay back the loan. And this is what we call a risk premium.
WOODS: The second big factor determining the mortgage rate, Yiming says, is the length of the loan.
MA: When banks are setting these longer-term interest rate, they will not only think about what is the next-day Fed interest rate going to be, right? What's going to be the jump today is only going to be a small part of that 30-year horizon.
MA: When you lock in your interest rate on your mortgage, that's what you could be paying for 30 years. But banks, they want to think about what interest rates will be doing over those 30 years, right? And if the Fed's interest rate goes up again later this year, the bank doesn't want to miss out on an opportunity to charge you more.
MA: This is where the Fed's signaling, or what we call forward guidance, comes into play. So at all these meetings, when they talk about their interest rate changes, they not only say what they're going to do right now, they also talk about the economy; they talk about their forecasts, about inflation. And they also talk about how they view future, potential rate hikes or rate cuts.
MA: And so bankers all around the world are not just looking at the interest rates going up. They're also poring over the words of Fed Chair Jerome Powell's speech.
WOODS: And so this guess about what's going to happen over the next few years gets tacked onto the mortgage's risk premium, which is indirectly built off the Fed's interest rate. And, ta-da, that's more or less how mortgage rates are made - the rates that Lindsey Casher will read on Thursday morning when she sits down for her morning coffee with Italian sweet cream, reading reports and forecasts about mortgages.
CASHER: You know, 2020 and 2021, it's like - it makes you scared to even try to predict anything (laughter). We've had so many things happen that were like, I never thought this would happen in my lifetime (laughter), so, you know? I have no control over the market. I will focus on the things that I can control and where I can improve and where I can help people. And we'll go from there.
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WOODS: If you liked this episode of PLANET MONEY, subscribe or follow to The Indicator podcast. There's a new episode every day, always 10 minutes or less - a short story a day explaining one facet of economics in the news. And please keep sending us your questions or tweeting at us. They help us pick what to cover. Planetmoney@npr.org is our email address. And you can find us on Facebook, TikTok, Twitter or Instagram. We are @planetmoney. The original Indicator episodes were produced by Niki Willette (ph) and Jamila Huxtable, with engineering from Isaac Rodrigues and Gilly Moon. They were fact-checked by Corey Bridges. The Indicator's senior producer is Viet Le, and Kate Concannon edits the show. This episode of PLANET MONEY was produced by Sam Yellowhorse Kesler and edited by Alex Goldmark. I'm Darian Woods. This is NPR. Thanks for listening.
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