Inflation is hitting shoppers' wallets hard, and the Federal Reserve's response of raising interest rates may cause a recession, but companies are thriving. In the US, profit margins have hit record levels not seen since shortly after the Second World War.

So how did this happen?

Economists say it is "greedflation," the notion that companies are hiding behind high inflation rates as an excuse to price-gouge customers while making record profits.

Société Générale's Albert Edwards said that the leading driver of high inflation is companies taking advantage by charging more to make bigger profits. Customers expect price rises because of inflation reports in the media, but companies have clearly taken advantage of rising inflation expectations and raised their prices even though their costs have remained the same.

Edwards says that central banks have focused on nominally rising wages as the leading cause of high inflation, referring to the wage/price spiral theory. However, Edwards believes that companies are the real drivers of inflation, taking advantage of rising inflation expectations to increase profit.

Between the end of Q4 2020 and Q3 2022, employee pay rose by 14%, but corporate profits grew by 29%. In an academic study, Isabella Weber, an economist at the University of Massachusetts Amherst, outlined a price-price spiral, where companies hike prices beyond any cost increase. As a result, companies have recently pushed margins higher. And, most surprisingly, "they continue to do so even as their raw material costs fall away," noted Edwards.

Lael Brainard, the former Fed vice chair and current director of the National Economic Council of the United States (NEC), expressed concern that a price-price spiral could ultimately tank the economy by dissuading consumers from spending. "The compression of these markups as supply constraints ease, inventories rise, and demand cools could contribute to disinflationary pressures," she said.

UBS Wealth Management's chief economist Paul Donovan also took issue with the current strategy. "Powell's failure to explain the philosophy behind their policy of how rate hikes will slow profit margin expansion added uncertainty," he said in a recent podcast.

While corporations are profiting massively, price spirals cannot last forever. A recession will eventually chip away at companies' abilities to charge more. "There will be a point where pushing price over volume becomes more challenging. Presumably, that would happen if we see a big correction among higher-earning people," said Annabel Rudebeck, head of non-US Credit at Western Asset.