But stagflation never arrived, and McMillan isn’t worried about another episode happening any time soon. He says that’s because the economy is fundamentally different today than it was back then. While the U.S. has sidestepped another bout of stagflation since the 1970s, some commentators have drawn parallels between that episode and recent dynamics in the economy. This complicates any solutions to stagflation because it implies that the traditional policy tools might not help. Modern economics can be described only slightly tongue-in-cheek as a continuous battle over the causes of the stagflation of the 1970s.
“Unemployment is likely to go up as the economy slows, in all likelihood, and inflation is likely to go up as tariffs find their way — and some part of those tariffs comes to be paid by the public,” he said during an April 15 appearance in Chicago. Ultimately it took a painful recession without interest rate cuts to get the economy back on track. In addition to the World Bank, other major institutions—like Goldman Sachs and BlackRock—also warned about stagflation risks. And former Fed Chair Ben Bernanke said in May 2022 that the U.S. could be in for a period of stagflation. If we imagine the Phillips curve as a seesaw, in the past, when one side (unemployment) went down a lot, the other side (inflation) would reliably go up. Even when unemployment has dropped quite a bit, inflation hasn’t gone up as much as experts expected.
Supply theory
Stagflation conjures up the major economic crisis in the 1970s, marked by double-digit inflation, steep interest rates and soaring joblessness. Stagflation denotes a situation characterized by stagnant economic growth, high inflation, and unemployment. In contrast, deflation specifically signifies a continual decline in the overall price level of goods and services within an economy. Stagflation emerges when inflation surges or rises significantly, economic growth decelerates, and unemployment maintains a persistently high level. This scenario poses a challenge for economic policymakers, as efforts to reduce inflation might worsen the unemployment situation.
What is stagflation? Definition, causes and 2025 outlook
These factors disrupt the delicate balance between inflation and growth, further leading to a stagflationary environment. If you want more tactical advice, consider overweighting defensive stocks in sectors such as consumer staples, utilities, energy and healthcare, Brochin says. Businesses in these sectors tend to have more stable earnings, which can provide some protection against stagnant economic growth and inflation. “In particular, we believe investors should favor companies with pricing power that are able to pass increased costs to consumers.”
- Federal Reserve Chair Paul Volcker guided the Fed through a vice-like tightening of monetary policy, raising interest rates dramatically (the federal funds rate peaked at almost 21% in 1981), to break the inflationary spiral.
- On the other hand, proponents of supply-side economics emphasized the importance of reducing taxes and regulations to stimulate production and boost economic growth.
- Low rates of unemployment tend to compensate for some of the pain that high levels of inflation bring because businesses generally can only raise prices when people are earning enough to afford it.
- The combination of cost-push inflation, driven by rising energy prices, and sclerotic economic growth led to widespread economic hardship.
In the 1970s, gold and other precious metals emerged as reliable traditional hedges. Commodities, especially oil amid an embargo, and those with limited supply, performed strongly. Paul Volcker served as Chairman of the Federal Reserve from 1979 to 1987, a period marked by significant challenges for the U.S. economy. He is best known for his decisive actions in combating soaring inflation during the stagflation era of the 1970s and early 1980s. In response to the challenges posed by stagflation, governments worldwide adopted a range of policy measures, often reflecting the influence of newly influential economic schools of thought. Their critique of lmfx review government intervention stems from the belief that central planning distorts market signals, leading to misallocation of resources and ultimately creating economic instability.
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- It has a trickier path because the go-to policies used to address one problem often worsen the other.
- According to standard monetary policy, the Fed lowers interest rates during a recession to encourage borrowing and spending.
- While Powell was careful not to use the word “stagflation,” experts have pointed out that the circumstances he outlined correspond with its definition, thrusting the term back into public discourse.
- He also said that the full effects of Trump’s tariffs have yet to be felt and that markets are exhibiting an “extraordinary amount of complacency” in the face of those and other risks.
- In the decades since, there hasn’t been a time when those three factors—high inflation, slow economic growth, and a rapid rise in unemployment—occurred simultaneously and for a prolonged period.
The goal is to strike a precarious balance where the economy grows at a healthy rate without allowing inflation to get out of control. But you can also take advantage of lower stock prices if you have a little extra money. In 1980, the Federal Reserve, led by chair Paul Volcker, raised the Fed funds rate to as high as 21%. This led to a painful 16-month recession and spike in the unemployment rate to 10.8%. Considering that stagflation is such an unusual and puzzling condition, there’s no guarantee that such an austerity fix would produce the same results in another stagflationary situation.
What is stagflation and why is it so dangerous?
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However, the effectiveness of these measures remained widely debated, with some arguing they primarily benefitted wealthy individuals and corporations rather than leading to broad-based economic gains. The real kicker was the OPEC oil embargo of 1973, which brought oil prices to record new levels. Prices skyrocketed, not only at the gas pump — where long lines and shortages were common — but across all U.S. industries. While it’s too early to gauge the impact of tariffs on inflation and growth, there have been recent signs of building price pressures. Stagflation concerns emerged in 2022 when rising inflation during the pandemic prompted the U.S.
Austrian School of economics
But keep in mind that the Federal Reserve has the dual responsibility of regulating inflation and unemployment. High unemployment with high inflation may make it a difficult decision for the Fed to raise rates and possibly worsen unemployment. With tariffs reshaping trade dynamics in real time, inflation hovering stubbornly above the Fed’s target and job growth showing signs of slowing, the conditions are set for a troubling period ahead. Gold, on the other hand, surged in value as investors sought assets that could maintain their purchasing power amid inflation and economic uncertainty. The price of gold increased more than 1,000 percent from 1971 to 1980, reflecting its appeal as a hedge during economic stress.
Typically, inflation rises during periods of strong economic growth and falls during slowdowns or recessions. In stagflation, higher prices diminish consumers’ purchasing power, while weaker demand hurts businesses, leading to job losses. For example, an easy monetary policy where interest rates are being lowered combined with a tight fiscal policy can lead to wage retaliation if taxes remain too high. As workers demand higher wages, businesses may reduce employment and pass the higher costs onto consumers by raising prices. Usually, when economic growth slows and there is higher unemployment, people have less spending money, so demand for goods and services falls.
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On the other hand, proponents of supply-side how to trade the vix economics emphasized the importance of reducing taxes and regulations to stimulate production and boost economic growth. The stagflation of the 1970s was primarily caused by a confluence of external factors, including the OPEC oil embargo and rising energy prices. The withdrawal of the oil supply led to a sharp increase in oil prices, which subsequently triggered a wave of cost-push inflation. With oil being a key input in numerous industries, the higher production costs reverberated throughout the economies, leading to higher prices for goods and services. Those supply shocks followed a period of accommodative monetary policy in which the Federal Reserve grew the money supply to encourage economic growth.
Stagflation is an economic condition characterized by slowing economic growth, high unemployment, and rising prices (inflation) simultaneously. Official unemployment peaked at 9% while inflation kept ratcheting higher and eventually surpassed 14% year over year. A second oil supply shock in 1979 prompted the Federal Reserve to raise interest rates to record highs, above 20%.
If you’re looking for further protection, you could look into investments that tend to do well during periods of inflation. For instance, Treasury Inflation-Protected Securities (TIPS) and I bonds both pay more interest when inflation rises. Stocks related to commodities, such as energy, industrial metals, precious metals, and agriculture products, have historically done well in inflationary environments. As always, ensure any new investments fit within your overall investing strategy.
