How Much Have Record
Corporate Profits Contributed
to Recent Inflation?
By Andrew Glover, José Mustre-del-Río, and Alice von Ende-BeckerI

nflation ended 2021 at a 40-year high and rose further in 2022.
Policymakers, politicians, and pundits have considered many possible explanations for this burst of inflation, from transitory supply chain disruptions to “wage-price spirals” to mismatches between
demand and supply. However, one potential explanation that has received significant public attention is “greedflation”—that is, the ideathat firms are capitalizing on their market power by raising their prices
higher and faster than the growth in their production costs. This idea iswell captured by Robert Reich’s May 17, 2022, testimony to Congress,
during which he said, “When corporations are so flush with cash, why
are they raising prices? They are not raising prices solely because of theincreasing costs of supplies and components and of labor.... Corporations enjoying record profits in a healthy competitive economy would
absorb these costs. Why? Because they can. And they can because they
don’t face meaningful competition” (p. 2).
Although higher corporate profits have received attention recently,
profits and inflation do not have a direct accounting relationship. However, inflation is directly affected by growth in the markup—the ratio
between the price a firm charges and the firm’s current marginal cost of
production. Inflation in a firm’s prices is therefore the sum of the growthin the marginal cost of production and the growth in the markup.
Andrew Glover is a senior economist at the Federal Reserve Bank of Kansas City.
José Mustre-del-Río is a research and policy officer at the bank. Alice vonEnde-Becker is a research associate at the bank. This article is on the bank’s website at
www.KansasCityFed.org

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Economic theory posits many ways that markups can change overtime. For example, markups could change due to a decrease in the pricesensitivity of consumer demand or an increase in monopoly power thatarises from reduced competition. However, markups could also rise if
current marginal costs become less important for a firm’s pricing, either
because current firms expect higher costs to replace current inventory
as it is sold or because firms expect higher marginal costs in the future
and want to smooth out price increases over time rather than raise prices
sharply and abruptly. In this article, we estimate the 2021 growth rate of
markups and discuss likely contributors to this growth. We find evidence
that markup growth was a major contributor to inflation in 2021. Specifically, markups grew by 3.4 percent over the year, whereas inflation,
as measured by the price index for Personal Consumption Expenditures(PCE), was 5.8 percent, suggesting that markups could account for morethan half of 2021 inflation. Such high markup growth is especially striking given that markup growth contributed almost nothing to inflation in
the decade leading up to the COVID-19 pandemic.
Although our estimate suggests that markup growth was a major
contributor to annual inflation in 2021, it does not tell us why markups
grew so rapidly. We present evidence that the timing and cross-industry
patterns of markup growth are more consistent with firms raising prices
in anticipation of future cost increases, rather than an increase in monopoly power or higher demand. First, the timing of markup growthin 2021, as well as earlier in the pandemic, does not line up neatly withthe spike in inflation during the second half of 2021. Instead, the largest growth in markups occurred in 2020 and the first quarter of 2021;
in the second half of 2021, markups actually declined. Therefore, inflation cannot be explained by a persistent increase in market power after
the pandemic. Second, if monopolists raising prices in the face of higher demand were driving markup growth, we would expect firms withlarger increases in current demand to have accordingly larger markups.
Instead, markup growth was similar across industries that experienced
very different levels of demand (and inflation) in 2021. This finding
suggests that an increase in markups may provide policymakers with asignal of future inflationary pressures, especially if it occurs during periods where expectations of near-term future inflation are heightened.

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Section I reviews the microeconomic theory of price setting bymonopolists while holding constant marginal costs and demand. Section II presents our estimates of markup growth across time and industries. Section III extends the theory of pricing to one where firms must
consider future marginal costs when setting current prices and demonstrates how an increase in expected future marginal costs translates toinflation through markup growth in the present followed by negative
markup growth in the future.

I.

Prices, Costs, and Markups in the Modelof Monopolistic Competition

Rising monopoly power among firms has been a popular explanation for the 2021 spike in inflation, buttressed by a coincident rise incorporate profits. To help illustrate the mechanisms through which monopoly power can raise markups, Figure 1 first shows how markups are
determined in a standard monopolistic model of price setting holding
a firm’s marginal costs fixed. The solid blue line shows that consumers’ maximum willingness to pay (that is, their demand for the good)
declines as they purchase more of a monopolistic firm’s product. The
dashed blue line shows that the marginal revenue a monopolist receives
from each additional sale declines as they increase output. Finally, thesolid green line plots the marginal cost of producing each unit sold.1
A profit-maximizing monopolist chooses the price that equatesmarginal revenue to marginal cost, so any change in price would lead toa loss in profits. For example, in Figure 1, if the monopolist sets a unit
price equal to $4, consumers will demand (and purchase) three units.
Because the monopolist’s production cost is only $1 per unit, they earn
$3 profit per unit for a total profit of $9 and a markup equal to 4 ($4/ $1 = 4). This price equates marginal revenue to marginal cost andmaximizes the monopolist’s profit. If the monopolist decides to lower
the price to $3, they would sell four units instead of three, but theirprofit per unit would fall to $2 for a total profit of $8 instead of $9 anda markup of 3. Similarly, if the monopolist raised the price to $5, thenthey would make $4 profit on each unit but sell only two units at thatprice for a total profit of $8 and a markup of 5.
Figures 2 and 3 illustrate how markups and costs jointly determine
inflation by showing how the monopolist will increase their price in

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Figure 1

Price Setting by a Monopolist
8

Price

Price

8

7

7

6

6

5

5

Marginal revenue

4

4Demand3

3

2

2
Marginal cost

1

1
1

2
Quantity

3

4

Figure 2

Effect of Higher Marginal Cost on Monopolist Pricing
8

Price

Price

7

7

6

6

DemandHigh marginal cost

5

5

4

4

3

3

Marginal revenue

2
1

8

2
Low marginal cost1
1

2
Quantity

3

4

response to either an increase in the marginal cost or an increase indemand. Figure 2 shows that an increase in the firm’s marginal costfrom $1 to $5—represented by the solid orange line—will raise theunit price by $2, from $4 to $6. In this case, the firm’s markup declines
from 4 to 1.2 ($6 / $5 = 1.2); even though the price level increases, it isdriven by the increase in marginal cost and markup growth is actuallynegative. In contrast, Figure 3 shows that an increase in demand—represented by the solid orange line—causes prices to grow from $4 to $5.

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Figure 3

Effect of Higher Demand on Monopolist Pricing
10

Price

Price

9

9
High demand

8

8

7

7
High marginal revenue

6

6

5

5
Low demand

4

4

3

3
Low marginal revenue

2
1

10

2

Marginal cost1
1

2
Quantity

3

4

In this case, the firm’s markup increases from 4 to 5, so the increase in
the price level in Figure 3 is entirely due to the firm’s markup growing.
In summary, changes in firms’ current marginal costs or demand
for their products can contribute to inflation as firms adjust their prices
to maximize profits. The total change in prices can always be understood as the combined effects of changes in the marginal cost of production and changes in the firm’s markup. Our simple model showsthat markups may or may not contribute to inflation: when a monopolist’s marginal costs increase, markups decline, but when demand for amonopolist’s products increases, markups rise.

II. Estimates of Average Markups
Although the figures in the previous section provide simple illustrations of firm markups, measuring the growth rate of these markups in
the real economy can be challenging. First, data on a firm’s marginal
cost of production are not available; instead, we can only observe measures of total costs in nominal values. Second, data collected at the firmlevel do not report the prices that firms charge or the quantity of goods
they produce, but rather their total sales.
To overcome these challenges, we estimate the growth rate in markups by assuming that firms equate their marginal cost to a constant
proportion of the production costs that they can control—specifically,

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variable costs, which include things like labor and utilities, rather than
fixed costs, such as depreciation on previously installed capital. This assumption allows us to proxy a firm’s markup growth using the growthin its ratio of sales to variable costs. We estimate markup growth using Compustat data, which consist of quarterly data at the firm levelfor publicly traded corporations in the United States. These data havebeen used widely to estimate markups (as in De Loecker, Eeckhout, andUnger 2020) and have two main benefits. First, they allow us to estimate markups at the firm level and then calculate averages at different
sectoral levels of aggregation. Second, they include a direct estimate of
total variable costs, “cost of goods sold,” which is our basis for estimating markups.2
The blue line in Chart 1 plots average markup growth across all
firms from 2011 through 2021, weighted by share of total sales. The
chart shows that after remaining roughly flat in the decade preceding
the pandemic and falling by 0.5 percent in 2020, markups grew by
about 3.4 percent in 2021. This is more than half of the 5.8 percent
PCE inflation rate, suggesting markup growth played a major role for
inflation in 2021.3 Furthermore, the burst in markup growth seen in
2021 stands in marked contrast to the decade before the pandemic,
when marginal cost growth drove inflation and markup growth averaged only 0.42 percent (less than one-third of average PCE inflation
over that period).
Looking at the timing of markup growth tells a more nuanced story. Chart 2 shows quarterly markup growth plotted against quarterly
PCE inflation. We estimate that quarterly markup growth was highest
in 2021:Q1, when it neared 16 percent (annualized), while quarterly
inflation was only 4.6 percent. Furthermore, markups fell in the second
half of 2021, while inflation accelerated. This suggests that the sourceof high markup growth in recent years was not a steady increase inmonopoly power.
As shown in the previous section, changes in demand can also drive
markup growth, even if monopoly power is unchanged. However, if
high-frequency changes in demand were generating fluctuations inmarkup growth, then we would expect industries with higher demand
to have both higher inflation and higher markup growth than thosewith less demand.

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Chart 1

Growth Rate in Markup Estimates
4

Percent

Percent

4

3

3

2

2

1

1

0

0

‒1

‒1

‒2

‒2

‒3
2011

2012

2013

2014

2015

2016

2017

2018

2019

‒3
2021

2020

Sources: Compustat and authors’ calculations.

Chart 2

Quarterly Aggregate Markups and PCE Inflation
Percent

20 Percent
15

Markup growth
PCE inflation

20
15

10

10

5

5

0

0

‒5

‒5

‒10

‒10

‒15

‒15

‒20
2019:Q1‒20
2019:Q3

2020:Q1

2020:Q3

2021:Q1

2021:Q3

Sources: Bureau of Economic Analysis (BEA), Compustat, and authors’ calculations.

We check for this pattern using the industrial detail of our Compustat markup measure. Goods and services experienced different rates ofinflation in 2020 and 2021, as shown in the first three bars in Chart 3.
Durable goods inflation spiked sharply to nearly 11 percent, nondurable
goods inflation grew by 7.4 percent, and services inflation remained relatively low at 4.3 percent. These differences likely reflect shifts in relative
demand in the face of ongoing COVID-19 risk in 2021, as spending on
durable goods has a relatively low risk of infection compared with spending

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Chart 3

Sectoral Inflation and Markup Estimates
12

Percent

Percent

12

10

10

8

8

6

6

4

4

2

2

DurablesNondurables

Services

PCE inflation rates

Manufacturing

RetailServicesMarkup growth

Sources: BEA, Compustat, and authors’ calculations.

on services. However, the green bars in Chart 3 show that the pattern formarkup growth in roughly comparable industries was much more similar.
Markups grew only slightly more in manufacturing (2.90 percent) thanin services (2.20 percent), and retail saw the smallest growth in markups(0.33 percent). The similarity of markup growth despite large differences
in inflation speaks against a simple demand-based explanation in whichmarkups drove inflation most for industries that experienced the strongest
increase in relative demand due to the pandemic.

III. Higher Future Marginal Costs Increase Markups
When Pricing Is Dynamic
Although markup growth was high in 2021, the evidence from theprevious section casts doubt on the simple explanation of “greedflation,” understood as either an increase in monopoly power or firms using existing power to take advantage of high demand. Instead, this evidence may be consistent with an alternative explanation: that firms areraising markups in the present to smooth price increases they expect in
the future. Indeed, both the hump shape of aggregate markup growthand similarity in markup growth across industries arise naturally instandard macroeconomic models where firms adjust their prices slowly
over time and expect high marginal costs in the near-term future.

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To understand how markups can rise in response to an increase infirms’ expectations of higher marginal costs in the future, we extend ourtheory of price setting to one with multiple periods of production andsales as well as “sticky” prices. We consider a firm that has a marginal
cost of $1 at the beginning of the year (as in Figure 1) but expects their
marginal cost to rise to $5 in the next year (as in Figure 2). However,
we assume that this firm will only set its price once for both years,
either because it is costly to adjust prices or because consumers dislike
frequent price changes. Of course, this illustrative model cannot also
generate inflation after markups have fallen, as we see in the data, but
we extend it to a longer horizon below.
Figure 4 demonstrates profits as the firm considers prices between$4 (which maximizes profits given a constant marginal cost of $1) and$6 (which maximizes profits given a constant marginal cost of $5). Using either price of $4 or $6 for both periods generates a total profitof $6. However, if the firm sets a price of $5, then profits rise to $8.
Effectively, this balances the average of the marginal cost between the
two years to the marginal revenue, thereby maximizing total profit.
Markups are therefore higher initially—when the marginal cost is $1,
firms set a price of $5, leading to a first-year markup of 5 rather than 4.
However, markups fall in the second year—when marginal costs rise to$5 and the price remains at $5, then the markup is equal to 1. In otherwords, the firm just breaks even on the last unit sold in the second year.
Although this simple example illustrates how higher future marginal costs can increase inflation in the present via markups, it is much
simpler than the dynamic equilibrium models used by policymakers,
which allow firms to engage in many periods of price setting, households to make consumption and labor supply decisions (which determine firms’ demand and wage costs), and monetary policy to changeinterest rates in response to inflation (which affects household spending). Figure 5 demonstrates inflation (blue line) and markup growth(green line) from such a model in which prices, output, and interest
rates are all determined jointly in equilibrium following a monetary
policy rule that leads the central bank to raise interest rates when inflation rises. In this simulation, firms realize that marginal costs will riseby 10 percent in a year and then shrink slowly, returning to normal
after two years. In anticipation, they begin raising prices immediately,

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Figure 4

Monopolist Profit from Fixed Price over Two Years
9.0 Profit

Profit 9.0

8.5

8.5

8.0

8.0

7.5

7.5

7.0

7.0

6.5

6.5

6.0

6.0

5.5

5.5

5.0
4.0

4.2

4.4

4.6

4.8

5.0
Price

5.2

5.4

5.6

5.8

5.0
6.0

Figure 5

Inflation and Markup Growth from Dynamic Equilibrium Model
7 Percent65Percent 7
6

Inflation

5

Markup growth

4

4

3

3

2

2

1

1

0

0

‒1

‒1

−2
−3

−2

−1

0

1

2

3

4

−2

Quarters before marginal cost increases

which translates into markup growth and inflation. Furthermore, inthe model, the increase in inflation elicits an increase in interest rates
by the central bank, which in turn lowers employment and reduces
marginal costs (through lower real wages). The result is that markup
growth initially accounts for more than 100 percent of inflation, which
is why the green line is initially above the blue line. Once marginal
costs rise, however, inflation is higher than markup growth, and eventually markups begin to shrink. The qualitative pattern of markup

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growth’s contribution to inflation is remarkably similar to the quarterly
pattern of inflation and markup growth in 2021. Furthermore, the initial markup-driven increase in inflation foreshadows the later increasein marginal costs and signals a persistent rise in inflation. Overall, thisexample’s accordance with the quarterly data from 2021 suggests thatthe large contribution of markups to inflation in 2021 may have been aharbinger of the continued inflation observed in 2022.

Conclusion
As inflation has remained stubbornly high, economists and policymakers have sought to better understand the contribution to pricegains from direct increases in marginal costs versus increases in firms’
markups. We show that markup growth likely contributed more than
50 percent to inflation in 2021, a substantially higher contribution
than during the preceding decade. However, the markup itself is determined by a host of unobservable factors, including changes in demand
but also changes in firms’ expectations of future marginal costs. The
decline in markups during the first half of 2022—even as inflation remained high—is consistent with firms having raised markups during2021 in anticipation of future cost pressures. Furthermore, the growth
in markups was similar across industries with very different relative demand and inflation rates in 2021, which is also consistent with an aggregate increase in expected future marginal costs. We conclude thatan increase in markups likely provides a signal that price setters expect
persistent increases in their future costs of production.

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Endnotes
We use a constant marginal cost for simplicity, but it is not required for our
empirical work.
2
Cost of goods sold is defined by the Internal Revenue Service as “the costs
incurred by the corporation in producing the goods or providing the services
that generated the corporation’s business receipts.” While it may sound straightforward that this measure proxies well for variable cost, Traina (2018) argues thatone should include other expenses, such as marketing and management costs,
as well. We have done our analysis with Traina’s alternative measures of variable
costs and found similar results for 2020–21.
3
We say that our estimates suggest that markup growth made a large contribution to PCE inflation because our average markups use different weights
than PCE. Specifically, we calculate the average markup in Compustat using
each firm’s markup weighted by its share of total sales, while the PCE price index
weights prices using consumption expenditures.
1

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References
De Loecker, Jan, Jan Eeckhout, and Gabriel Unger. 2020. “The Rise of Market
Power and the Macroeconomic Implications.” Quarterly Journal of Economics, vol. 135, no. 2, pp. 561–644. Available at https://doi.org/10.1093/qje/
qjz041
Reich, Robert B. 2022. “Corporate Profits Are Soaring as Prices Rise: Are Corporate Greed and Profiteering Fueling Inflation?” Testimony to the U.S. Senate
Budget Committee, April 5.
Traina, James. 2018. “Is Aggregate Market Power Increasing? Production Trends
Using Financial Statements.” Stigler Center for the Study of the Economy
and the State, New Working Paper Series no. 17, February. Available athttps://doi.org/10.2139/ssrn.3120849