An Unfriendly Prediction

Here's a paper that has been interesting to think through in light of recent happenings. Because I’m not fond of discussing current events, I will do my best to analyze current inflation implications in a lasting manner.

The strong version of the argument made in the paper predicts degradations to our collective social capital, i.e., the network of relationships and how they interact, on a vast scale. They find a significant negative relationship between inflation and social capital. What could this mean for the United States at the moment? Well, it depends.

According to economists, social capital is usually defined as "the set of beliefs that promote cooperation and help overcome the free-rider problem." In other words, if how you view me, in some sense, dictates my future experiences, then the better I act, the better I get treated in the future. This predicts that I would be more likely to cooperate and carry my weight. We all intuit, and the literature confirms, that social capital changes and is persistent, at least in the short run. This paper finds that inflation reduces social capital. More specifically, inflation reduces pro-social thoughts and attitudes.

Meaning, given the current inflation levels in the US, we should expect that inflation reduces people's social capital. We all understand this on some level. For example, suppose we measure social capital as donations or helping orphanages. In that case, it is reasonable to assume that rational individuals making sound decisions decrease their pro-social behavior. Thus, individuals' social capital falls. The inverted version of this claim is interesting because it possibly debunks the myth of the selfish capitalist. The authors say:

we should interpret the negative correlation of social capital with inflation as a positive correlation with real income.

In other words, the more people's real income increases, the more likely they are to engage in pro-social behavior or, at the very least, engage in pro-social thoughts and attitudes. As a result, a testable hypothesis one should carry in their minds is if social capital, measured instrumentally, reduces as inflation increases. There is also a significant "levels issue." In other words, the effect of inflation on social capital varies depending on the level of inflation. They claim that an increase in inflation of one standard deviation decreases social capital by seven percent.

That said, recent findings show that the US is actually approaching 'full employment' (however poorly defined) and thus is experiencing wage increases. In the spirit of the paper, this should be correlated with an increase in social capital if the nominal wage increase translates to a rise in real wages. Thus, will there be a broad-scale decrease in social capital? Well, probably in the short term. Inflation, for better or worse, is felt daily and therefore might dwarf the effects of an increase in income. The bottom line is that because many variables interact, the problem is complicated. The approach is definitely interesting because it has quite a bit of predictive power for less developed countries or countries that experience dramatic and persistent increases in inflation. The bigger research question is if social capital is transferable intergenerationally as risk attitudes, apparently, are.

Certainty Rating: 74%


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