What Drives Inflation? Lessons from Disaggregated Price Data

Abstract

The Covid pandemic disrupted supply chains and labor markets, with heterogeneous effects on demand and supply across industries. Meanwhile governments responded with unprecedented stimulus packages, and inflation increased to its highest values in 40 years. This paper investigates the contribution of aggregate monetary and fiscal policies to inflation compared to industry-specific disruptions. I argue that, in an economy where multiple industries and primary factors have heterogeneous supply curves, industry-specific shocks to inelastically supplied goods increase aggregate inflation beyond the control of monetary policy. Moreover, industry-specific and aggregate shocks have different effects on relative prices, which allows me to identify their respective contribution to aggregate inflation. For US consumer prices, I find that deflation and subsequent inflation in 2020 were due to industry-specific shocks, while since 2021 inflation is primarily driven by aggregate factors.