Inflation and the Labor Market in Revenue-Controlled Industries

For many of us, we're seeing inflation today that we've never experienced before. I'm old enough to not be part of that "many of us," but it's been a long time. In fact, by the time I was in the profession I am in today, inflation was seriously on its way down -- a downward path that has largely remained until just recently. Still, I vividly remember the late 70s and early 80s.

When inflation spikes, it seems to come upon us somewhat suddenly -- unexpected, yet expected. The 2022 vintage of this phenomenon fits that pattern quite well. There has been rampant government spending and therefore printing of greenbacks for the last couple of years and large amounts of those dollars have gone into the hands of consumers. In the case of most people, when they suddenly have more cash than they are used to, they look for ways to spend it.

The current period is no exception. With all of the various government programs from which Americans have received compensation for being unemployed, underemployed, low-income, middle-income, high-income if you can cook up the right circumstances, and more, even people deeply in debt having the choice of paying down that debt or spending the hot dollars in their hands on goods have opted more often than not for the goods.

Let's think about this in economic terms. People want to spend more. Said differently, demand is up. Production of goods, particularly in the US is not up at the same rate with the reasons purported to be largely supply chain-based (not my expertise and I don't want to argue whether these reports are true and not inflated). And, with global tensions, imports of products from many typical supplying countries are way dawn. Translated: supply is down and demand is up.

Let me repeat: supply is down, demand is up. That means people will pay more for goods and services resulting in inflation. Frankly, I've been expecting it for years as have very likely most of you, but I would argue that the Fed has taken steps to somewhat artificially keep it in check. 

Now let's turn to what I suggested was the core topic of this post. We'll consider the labor market first.

Employee turnover is at historically high levels. People are taking time off or simply job-hopping. In many cases, they do it for the instant gratification of additional cash in hand. Generally speaking, they do it because there is something better about the employment deal at New Employer than their was at Former Employer. It might be purely pay. It might be a great boss. It might be the ability to work from home whenever you feel like it. 

Whatever the reason, employers are finding that unless they are offering something special -- higher pay, some wonderful benefits, or whatever the fad of May 26 is -- they are losing employees and having to spend money to recruit new ones at higher pay. Said differently, labor costs could easily be 20% higher in 2022 than some Finance executives anticipated (they might not be, but I think it is certainly a possibility).

How about the employer? Most of us think better in round numbers, so for illustrative purposes, I am going to start with one. Suppose Employer X had budgeted $100 million for total labor costs (whatever that means to them) for 2022, but now finds that in order to run its business, it now finds its labor costs for 2022 up 20% to $120 million. 

The immediate response is simple: they should raise their prices. Since consumers are used to paying more, they'll pay more for these goods or services as well, right?

They might, but it's not that simple.

Consider Hospital H. Hospital H is paying more for supplies, more for utilities, and as we noted, 20% more for labor. But in the 2022 environment, H really has no way to bump up its prices. 

Why? Hospital H gets the very large majority of its revenue by being an "in-network" facility for pretty much every major health plan in its area. It negotiated 2022 reimbursements a while back. And, the health plans/insurers are not about to be charitable and renegotiate them. Hospital H's revenues are largely locked in. It's stuck with its expenses. Whoops!

This is where the creative minds will win out. How can Hospital H cut its expenses for the second half of 2022 without harming patient outcomes or patient experiences? Are there ways to do that without jeopardizing 2023 and beyond?

Some organizations will have that flexibility. Others will not. But I think there are solutions ... at least partially.