The Inflation Sequence
We can understand inflation by following the trail of a single apple from a farmer's tree to the consumer's table. The farmer picks an apple and sells it. By the time a consumer eats it, it can have any price. In the examples to follow, the same apple can cost between 1.6 cents and 32 cents. A huge 20:1 difference. The pricing differences are unrelated to supply and demand. Prices are determined wholly by the mark-up percentages used.
A business will change their mark-up percentages for many reasons. A belief in Supply and Demand Theory undoubtedly plays a role, but inflation is a long-term mathematical phenomenon. We need to understand the math that the behavior is causing.
In our first example, a farmer picks an apple and sells it to the cooperative for one cent. The cooperative sells it to a wholesaler for two cents. The wholesaler sells it to a cold storage company for four cents. It is then sold to a distributor for eight cents. The supermarket buys it for sixteen cents. It is put on the shelf for the consumer at thirty-two cents. Everyone along the supply chain has enjoyed a 100% profit percentage. In cash money, however, their profit is very different: one cent for the farmer, one cent for the cooperative, two cents for the wholesaler, four cents for the cold storage, eight cents for the distributor and sixteen cents for the supermarket. (1+1+2+4+8+16=32) The eating of one apple has created 32 cents of money-value out of thin air.
We can learn quite a bit from this simple model. The inflation was created by the sellers, not by the government. The volume of BSPD had no effect on the price. Inflation was created by the math being used. Each transaction is commonly dependent on the one immediately prior and after, but every transaction is unrelated and independent overall.
There is a very large disparity in income for the same labor of passing along the apple within the supply chain. A farmer has to sell thirty-two apples so he can afford to buy one apple at retail, but the distributor only has to sell four to earn enough to buy one apple. For a consumer to pay thirty-two cents, they must have earned enough profit from a similar chain of supply activity. Inflation is necessary to keep pace with inflation.
The apple was real; the value of the apple was invented by the habits of trade. Everyone involved in the transaction collectively created 32 cents of inflation. The chart below shows how price inflation occurs as a good moves, the profit for each participant in the transaction, and their respective share of the creation of inflation. Notice that the farmer and the cooperative are getting the smallest share, and the last person to touch the apple has the most profit. The chart exposes the root cause of inflation, and the large disparity in income levels.
100% Markup profile by Steve Consilvio
The second example is based on a 50% mark-up, rather than a 100% mark-up. The final cost of the apple drops significantly, from 32 cents to less than 8 cents. The farmer gets a larger share of the inflation that was created, but he did not change his original price of one cent. There is less income disparity. The inflation sharing is more level, with a low of 7.2% for the cooperative and a high of 33% for the supermarket. The spread is only 25.8 points, compared to the spread of 47 points at the 100% markup. A smaller markup results in lower prices and more equal earnings. The profit ranges from .5 cent to 2.5 cents, rather than from 1 cent to 16 cents.
50% Markup Profile by Steve Consilvio
The third example is based on a 10% markup. The final price of the apple is less than 2 cents! The farmer sold the apple for 1 cent in all three examples. This time, the apple was able to move from tree to table for less than twice its original cost. The lion's share of inflation was created by the farmer, 62.1%. The inflation share for everyone else varies only 3 points, from 6.21% to 9.32%. In this situation, everyone is making less than the farmer. In the other examples, with few exceptions, everyone was earning significantly more than the farmer.
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