Are greedy corporations really responsible for the higher prices?

Some politicians have recently stated that Americans are paying more for their purchases because greedy corporations are raising prices to increase profits at their expense. Is this true? The laws that govern the securities industry require companies to disclose their financial statements to ensure honesty and fairness. These financial statements should tell us whether the companies are profiting at the expense of the average citizen.

Take the fast food sector. Nothing is more “Americana” than jumping in the car and heading to the drive-thru to grab a couple of burgers to eat in the parking lot. Consumers are paying more for Fast food. Prices at Burger King and Wendy's have increased 55% over the past 10 years; prices at McDonald's have doubled, or increased more than 7% annually, much more than the 2.8% increase reported by the Bureau of Labor Statistics in annual inflation in the same period. Do higher prices lead to higher profits for burger restaurants?

Figure 1: Operating margins remained unchanged

(Sales – Operating Costs)/Sales, %

Source: Company’s SEC filings

As in Figure 1The operating profitability of fast-food chains has remained relatively constant over the past five years. In other words, the higher prices that restaurants are charging have not led to higher profitability. This in turn means that restaurants are simply passing on the higher input costs to the final consumer.

Figure 2 shows that the main ingredients for burgers, beef (if the burgers contain beef at all) and bread, have increased by 41.4% and 44.2% respectively over the past five years, or 7.2% and 7.6% annually respectively. That's the same as McDonald's price increases and far higher than Burger King or Wendy's. Even electricity prices have increased by 28.1% (5.1% per year), not to mention labor and other costs.

Figure 2: Input costs have skyrocketed

Average prices in US cities, monthly, June 2019 = 1

Source: St. Louis Fed

If there were no barriers to entry or government intervention in the market, fast food restaurants would raise their prices arbitrarily to increase their profits. Then someone would come into the market and sell the burgers cheaper, which would take away their market share and force the incumbents to lower their prices to stay in business. This is the essence of our capitalist system. The lack of new entrants shows that the existing burger restaurants are not making above-average profits.

We have to look elsewhere for the answer to the question of why prices are rising.

In recent years, the federal government has spent significantly more than it has collected in taxes and has run up massive deficits. In the first years of this century, deficits were in the hundreds of billions of dollars, which, while not a good fiscal position, was manageable. Figure 3 According to a recent study, budget deficits have exploded recently and are expected to grow permanently to over a trillion dollars, or over 6 percent of U.S. GDP – a staggering sum.

Figure 3: Government spending is spiraling out of control

US federal deficit by fiscal year

Source: St. Louis Fed

Much of this spending is wasteful because it is spent on programs that some politicians want but the public does not, and on programs that the market does not demand. Moreover, because there is a limited pool of borrowing resources, government debt crowds out private credit that could be used to finance more productive projects that the market does demand. Such projects would do more to grow the U.S. economy and increase the prosperity of Americans.

To finance the federal government's irresponsible spending, the Federal Reserve has inflated the money supply from $4.7 trillion at the beginning of this century to $21 trillion today – an increase of 347 percent! During the same period, U.S. GDP has increased by 108 percent. Since the money supply in circulation is growing faster than the production of goods and services, the price level must rise. In other words, the value of the dollar relative to the goods and services it can buy continues to decline.

To make matters worse, the Federal Reserve is buying up U.S. government debt, allowing the government to continue its uncontrolled spending habits. The Federal Reserve has expanded its balance sheet to over $7 trillion and is now by far the largest holder of U.S. Treasury bonds.