Inflation is rising at levels higher than we’ve seen in decades, for reasons largely related to spending practices and other factors of the pandemic, as well as Russia’s invasion of Ukraine. Experts say inflation will normalize as soon as this year, but in the meantime, what does this mean for workers and businesses?

The COVID-19 pandemic, even as it gradually calms and restrictions and regulations related to the pandemic disappear, has left residual effects, including inflation. During lockdown, many of us managed to save a lot of money, because we had fewer places to go and fewer reasons to spend. Economists suggest that, as the world normalizes and we get back our livelihoods, we are spending more, which has caused demand for durable goods in the U.S. to skyrocket. Demand has not surged this strongly since 1946.

Inflation is undoubtedly running high right now, as the following graph illustrates, but experts suggest that while we should take note, we probably should not panic, because most of the causes of this rise in inflation–higher than in decades–are related to the pandemic. The expectation is this is a temporary state, and as demand returns to more normal levels, so will inflation–possibly even this year.

Inflation can impact workers because it plays a role in salary negotiations, employment opportunities, and across the board raises the cost of leaving. For businesses, consumers with less spending power means fewer sales and customers.

What is inflation?

In the simplest terms, inflation is a measurement of how costs for certain goods and services rise over a period of time–usually a year. Inflation can be used broadly as an overall indicator of price increase, or it can be measured more specifically, as for particular goods, such as food or even haircuts. Spikes in inflation can be caused by several factors, usually a sudden increase in demand for goods, or by a miscalculated increase in workers’ wage, caused by an expectation in price increase for goods or services that doesn’t materialize, making production more costly.

Inflation is a complex concept, and its impact varies depending on demographics and economic status. UBS Chief Economist Paul Donovan, author of The Truth About Inflation, is quoted by the World Economic Forum saying that he believes inflation is often misunderstood. “We have this idea that there is a single inflation number which affects us all. And that just isn't true,” he told Radio Davos. “The inflation experienced by older people tends to be higher. The inflation experienced by lower income people tends to be higher because of what they buy. Older people buy healthcare, lower income people are buying food, energy and housing in disproportionate amounts. And that gives them a higher inflation rate. So really, if you want to avoid inflation, you need to be young and rich.”

How does inflation affect workers?

For workers–and people in general–higher inflation means lower spending power. According to the Bureau of Labor Statistics the cost of goods and services that the average American buys (the consumer price index) increased by 5.4%. The problem for the average worker is that their pay did not increase by such, or by any, percentage over the same period, making it harder to match the increased cost. The following chart from the BLS shows how earnings have eroded due to inflation.

In addition to spending power, when inflation rises, employees and potential employees have less leverage at the negotiating table when receiving job offers or asking for increased financial compensation. Research shows that, when adjusted for inflation, the average worker’s average wage has remained stagnant at about $20 an hour for the past several years.

How does inflation affect businesses?

For businesses, the main negative impacts of higher inflation are 1) a reduction in customer spending power for goods or services, and 2) a greater challenge recruiting talent who are demanding a salary in line with their higher cost of living. Amid the Great Resignation or Great Reevaluation, whichever term you use, hiring managers are already having difficulty attracting talent to fill myriad empty positions that are essential to keeping businesses running.

What can businesses expect to happen over the coming year? There are four possible scenarios for businesses moving forward.

Reverting to inflation norms

The best-case possibility, in which inflation reverts to recent norms of around 2%. This would enable consumers to resume spending more on services and less on goods.

Inflation declines, but only slightly

This suggests that inflation will decline from current rates but remain around 3-4%. This would result in slightly higher rates of unemployment and slightly higher inflation compared with pre-pandemic averages.

Inflation rises even more

Worst-case, inflation will rise over the course of 2022 to 8-9%. This would cause a spiral in which workers would demand even higher wages in order to maintain spending power, which would force businesses to pass the additional costs on to customers.

An abnormal drop in inflation

In this unlikely but not entirely impossible scenario, inflation could drop well below historical norms, perhaps below 1%. This would be a bad case for business if combined with a drop in consumer spending, as it would lead to inventory excess and force the selling of goods and services at a discount.

Inflation and the World of Work: Key Takeaways

It has been a long, bumpy two-plus years all around, and with all the shifts and adjustments that have been made in the world of work as a result, inflation feels like another discouraging hurdle. But economists are mostly optimistic that the situation will normalize in not too long. Josh Bivens, director of research at the Economic Policy Institute, for example, told CNBC he is optimistic that both energy prices and inflation will level off soon, and the hope of many other experts is that, within the year, even inflation can return to a more pre-pandemic normal.

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