The Great Reversal of Inflation Inequality Open Access
Cleaveland, Lola (Spring 2023)
Abstract
This study finds that there was a reversal of inflation inequality during the Covid-19
pandemic. From 2012 to 2021, inflation varied inversely with income US households. In mid-
2021, amidst the recent inflationary period, this trend reversed and the lowest income group
experienced the lowest inflation rate of any income quintile. Key drivers of this disruption
were spending on leisure and travel goods such as rental vehicles and lodging away from home
which drove up inflation for high income households. Using an intertemporal optimization
model, this study shows that the reversal of inflation inequality stemmed from the interaction
between lockdown constraints on luxury services during the pandemic and non-homothetic
preferences for normal consumption as well as luxury services. Lockdown constraints created
deferred demand for luxury services among high-income households and spurred a heightened
propensity to consume luxury services in the post-pandemic period, contributing to a reversal
of inflation inequality.
Table of Contents
1 Introduction 1
1.1 Motivation and Research Question 1
2 Literature Review 3
3 Empirical Strategy 8
3.1 Hypotheses
3.2 Empirical Methodology 9
3.3 Data and Variables 10
4 Empirical Results 12
4.1 Differences in Inflation Rates Experienced by Various Income Quintiles 12
4.2 What Expenditure Patterns Lead to Differences in Inflation Across Income Quintiles? 15
5 Theoretical Explanation 19
5.1 Model Environment 19
5.2 Normal Period 20
5.3 Pandemic Period 23
6 Discussion: Policy Implications 26
7 Conclusion 27
8 Appendix 29
8.1 Figures 29
8.2 Derivation of Equation 6 Using Partial Derivatives 29
8.3 Derivation of Equation 7 and 17 using Lagrangian Optimization 31
8.4 Appendix of all equations used in main body text 34
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