What Is Stagflation And Whether The Economy Is Heading For It

Phillips concluded that periods of low unemployment forced an increase in the price of labor which was passed on to consumers. But the growing consensus among economists and investment strategists is that the days of the Goldilocks economy, where inflation was coming down without slowing GDP, are numbered. Low rates of unemployment tend to compensate for some of the pain that high levels of inflation bring. That’s because businesses generally can only raise prices when people are earning enough to afford it. In contrast, when unemployment is high and people are cutting corners, businesses will have a tough time passing on higher prices to their customers, which keeps inflation low.

Unfavorable demographic trends caused by an aging population that leaves fewer people in the workforce alongside increased taxes and regulations could cause economic growth to stagnate, Rosen says. “Investors might be tempted to make drastic changes to their portfolios if they are concerned about stagflation, but we continue to believe that diversification and taking a long-term investing approach are key,” Martin says. “We suggest investors stay invested in the market – focusing on investments that are in-line with their risk tolerance and objectives – and focus on high-quality investments.” Finally, even if the pace of economic growth slows, investors should focus on tweaks to their asset allocations rather than wholesale changes. Because transportation costs rose, producing products and getting them to shelves became more expensive and prices rose even axitrader review as people were laid off from their jobs.

Bankrate logo

The search for a weapon to fight stagflation led in part to the rise of supply-side economic theories as an alternative to Keynesian economics. Included in the report was an update on inflation from the prior quarter, as measured by the Fed’s preferred gauge, the Personal Consumption Expenditures price index. The latest data showed prices ticked up to a 3.4% annualized rate in the first quarter compared to 1.8% in the last quarter of 2023.

Why Is Stagflation Bad for the Economy?

The most obvious fixes for stagflation tend to be deeply unpopular in the U.S. For example, if the price of oil is a key cause of out-of-control prices, privatization or price controls might be imposed. If higher wages are blamed for inflation, the government might limit wage increases.

• Similarly, defensive stocks, particularly in sectors like consumer staples and utilities, might offer stability.
• Cost-push inflation results when producers are able to recoup their increased costs by increasing the price of finished products.
• After Iain Macleod, a British Conservative Party politician, used the term stagflation during a speech to Parliament in 1965.

Blame Oil Price Shocks

Typically, inflation goes hand-in-hand with economic growth, and an overheated economy is one possible cause of higher inflation. In an economy running hot by operating above its long-term potential, price increases are necessary to ration labor and other scarce inputs and to offset those increased production costs. Meanwhile, a contracting economy with lots of spare capacity restrains price hikes and wage increases as demand slows. For example, they cite surging energy costs or food costs as the root cause of the economic problems of stagflation. Monetarist economists cite too rapid growth in the money supply for creating a situation where opencv introduction too many dollars are chasing too few goods.

Random Glossary term

The higher interest rates climb, the more of a concern it’s becoming, especially as inflation doesn’t look like it’s slowing down completely. Cooling gasoline prices have helped to take the edge off of inflation, but prices are heating up in key areas of rent, housing and medical care despite 3.75 percentage points of rate hikes so far this year. Since recessions are more common than periods of stagflation, there are macroeconomic tools developed that help nations fight recessions. Stagflation occurs much less often, so it is considered a worse condition because standard recessionary tools are ineffective. The failure to forecast, avoid, and contain stagflation once it occurs suggests that the exact forces creating it are not yet known. A practical method of addressing stagflation once it occurs is also unknown.

Over time, the cost of oil returned to more normal levels and the economy began to emerge from its slump. Most neoclassical or Austrian views of stagflation, such as those of economist Friedrich Hayek, are similar to Friedman’s. Common prescriptions include the ending of expansionary monetary policy and allowing prices to adjust in the free market. Conversely, Phillips noted that recessions slowed the rate of wage inflation. With more workers competing for fewer jobs, employers could pay lower wages.

But, since then, simultaneous economic stagnation and rising prices appear to be part of the new normal of economic downturns. Critics of this theory point out that sudden oil price shocks like those of the 1970s did not occur in connection with any of the simultaneous periods of inflation and recession that have occurred since the embargo. The sole, partial exception to this is the lowest point of the 2008 financial crisis—and even then the price decline was confined to energy and transportation prices while overall consumer prices other than energy continued to rise. The economic theories that dominated academic and policy circles for much of the 20th century ruled it out of their models. In particular, the economic theory of the Phillips Curve, which developed in the context of Keynesian economics, portrayed macroeconomic policy as a trade-off between unemployment and inflation.

Another way to prep purchases while protecting yourself against inflation is to buy things now that you’ll otherwise need to buy in the future. “You can buy next year’s paper towels today and store them,” says Kotlikoff. Plus, with interest rates rising and expected to go even higher, now is a smart time to pay down any variable interest-rate debt, such as credit card balances, before it becomes even more expensive. Stagflation may also be a reason to delay making large purchases, such as buying a home, especially if your area is alpari forex broker review experiencing a real estate bubble. However, if you are employed and have money to spend, you should continue making regular purchases.