In the 1970s, the oil shocks provided the backdrop for a rise in structural rates of unemployment as economies adapted to higher energy prices and growth slowed. In America, unemployment stood below 4% on the eve of the pandemic, with inflation also low. That suggests the current rate of unemployment at 3.6% is close to the long-term norm. Those supply shocks followed a period of accommodative monetary policy in which the Federal Reserve grew the money supply to encourage economic growth. Meanwhile, global economic growth slowed sharply in the 1970s—a decade marked by two different recessions in the U.S. and the lead-up to a third one that began in 1980.
According to this theory, periods of mergers and acquisitions oscillate with periods of stagflation. When mergers and acquisitions are no longer politically feasible (governments clamp down with anti-monopoly rules), stagflation is used as an alternative to have higher relative profit than the competition. With increasing mergers and acquisitions, the power to implement stagflation increases. The wage-price spiral, sometimes also called wage-push inflation or built-in inflation, describes instances when rising wages and prices reinforce each other, with higher prices driving wage increases which then result in still higher prices. The wage-price spiral is what can happen when policymakers fail to bring inflation under control.
This caused the global price of oil to rise dramatically, therefore increasing the costs of goods and contributing to a rise in unemployment. Typically, inflation is coupled with economic growth and can even be a byproduct of a rapidly expanding economy. Stagflation refers to the rare and puzzling phenomenon of a recession coinciding with prolonged high inflation. Stagflation marked the worst performance by advanced economies between the Great Depression and the Great Recession, and as such left a lasting mark. It led economist Arthur Okun to come up with a misery index summing the inflation and unemployment rates, and the name encapsulates how that period of economic history is remembered. The causes of stagflation during that period remain in dispute, as did the likelihood of a reprise in 2022 amid high energy and food prices, rising interest rates, and persistent supply-chain snags.
What causes stagflation?
The inflation of the 1970s has been variously attributed to the cost-push of oil price shocks and the demand-pull of relaxed fiscal and monetary policies. Even before the 1970s, some economists criticized the notion of a stable relationship between inflation and unemployment. They argue that consumers and producers adjust their economic behavior to rising price levels either in reaction to—or in expectation of—monetary policy changes. Cost-push inflation reflects a rise in prices of one or more key economic inputs, such as crude oil, grain, or labor. Cost-push inflation results when producers are able to recoup their increased costs by increasing the price of finished products.
- Macleod used the term again on 7 July 1970, and the media began also to use it, for example in The Economist on 15 August 1970, and Newsweek on 19 March 1973.
- 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.
- The wage-price spiral is what can happen when policymakers fail to bring inflation under control.
- Although the U.S. eventually overcame the stagflation scourge of the 1970s—after a decade of economic doldrums—the causes of stagflation and the best solution for overcoming it remain a matter of debate.
- Rental properties would have made sense in the 1970s, but in the post-pandemic inflationary period, rental property investing was a tricky business.
While appealing, this is an ad-hoc explanation of the stagflation of the 1970s which does not explain later periods that showed a simultaneous rise in prices and unemployment. 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. The term stagflation was first used by British politician Iain Macleod in a speech before the House of Commons in 1965, a time of economic stress in the United Kingdom. He called the combined effects of inflation and stagnation a “‘stagflation situation.” As noted above, central banks like the Federal Reserve, often referred to as the Fed, and the European Central Bank (ECB) prefer modest inflation to none at all, as insurance against destabilizing deflation.
In the U.S., every dollar of economic output takes 70% less petroleum to produce than it did in the ’70s. Meanwhile, the Russian invasion of Ukraine in February, coming after a year of lower global oil production, has caused a spike in energy prices akin to that of the seventies, Hunter said. On rare occasions, however, high inflation persists even as the economy slows and unemployment rises, resulting in stagflation, she said. Rental properties would have made sense in the 1970s, but in the post-pandemic inflationary period, rental property investing was a tricky business. On the one hand, housing prices (and average rent prices) rose on an annualized basis, but many cities and states implemented eviction moratoriums (meaning you couldn’t evict tenants who weren’t able to pay their rent).
Other theories point to monetary factors that may also play a role in stagflation. They have put forth several arguments to explain how it occurs, even though it was once considered impossible. Once thought by economists to be impossible, stagflation has occurred repeatedly in the developed world since the 1970s oil crisis. Economic conditions in early 2022 led many commentators to wonder whether the U.S. was headed for a return to stagflation. However, most analysts believe the country’s reduced reliance on imported oil—and energy, in general—plus the Federal Reserve’s credibility should stave off 1970s-style stagflation. Cost-push inflation occurred in 2005 after Hurricane Katrina destroyed gasoline supply lines in the region.
Postwar Keynesian and monetarist views
Severe supply constraints and labor shortages during the COVID-19 pandemic pushed inflation as high as 9%. Russia’s invasion of Ukraine and—in a repeat of history—production cuts by OPEC kept oil and fuel prices https://www.forex-world.net/ high. The de facto consensus on stagflation among most economists and policymakers has been to essentially redefine what they mean by the term inflation in the era of modern currency and financial systems.
While stagflation is quite rare—the U.S. has only experienced one sustained period of stagflation in recent history, in the 1970s—it’s become a more frequent topic of speculation. Since that time, inflation has proved to be persistent even during periods of slow or negative economic growth. In the past 50 years, every declared recession in the U.S. has seen a continuous, year-over-year rise in consumer price levels. In economics, stagflation or recession-inflation is a situation in which the inflation rate is high or increasing, the economic growth rate slows, and unemployment remains steadily high. It presents a dilemma for economic policy, since actions intended to lower inflation may exacerbate unemployment. High prices squeeze household budgets and reduce consumer spending, while weak economic activity means businesses grow slowly, if at all, and corporate profits slump.
Policymakers today are also more attuned to inflation than they were four decades ago. Most central banks today have numerical targets, making it less likely they will miss runaway inflation and allow it to become “anchored” among consumers. Meanwhile, the economy continues to show resilience, even if the underpinnings of growth appear more fragile. Consumers continue to spend at a healthy clip despite higher prices and businesses continue to hire. Turning the current inflation problem into stagflation would require two further ingredients.
There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency. The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million is able to diagnose. In the 1970s, this toxic stew of high unemployment and high inflation persisted for over a decade as the U.S., U.K. “Stagflation is basically the worst of all worlds,” Veronika Dolar, a professor of economics at Long Island-based State University of New York Old Westbury, told ABC News. Stagflation is uncommon, but it has happened a couple times in the last several decades.
What Is Stagflation?
“Modern economies are now much more efficient in their use of oil than they were in the 1970s, and a much larger share of GDP is composed of the production of services,” Sandy Batten, senior economist at Haver, said in a recent presentation. However, aside from a brief but severe recession due to the pandemic lockdowns in 2020, the economy muddled through, with gross domestic product (GDP) mostly positive and relatively steady. Economist Larry Summers, a former Treasury Secretary, argued in a March 2022 op-ed in The Washington Post that the Federal Reserve’s current policy trajectory would likely lead to stagflation and ultimately a major recession. According to the National Bureau of Economic Research, the economy fluctuates between growing and contracting as part of the typical economic cycle—and, in fact, there have been seven recessions in the U.S. in the past 50 years. While it’s unlikely that the U.S. economy is headed for another bout of stagflation, it’s important to contextualize what’s happening with the prominent episode of stagflation in the 1970s.
Inflation is the broad rise in the price of goods and services across the economy. The Federal Reserve deems annual inflation averaging 2% over the long run most consistent with its mandates of stable prices and maximum employment because that keeps the much more dangerous deflation at bay while supporting economic growth. For https://www.day-trading.info/ example, if inflation is at 5% and you currently spend $100 per week on food, the following year you would need to spend $105 for the same groceries. The last major bout of stagflation took place in the 1970s, when an oil shortage sent gas and other related prices soaring as it simultaneously dragged down economic output.
But the crisis of the 1970s offers few lessons for the current moment, since the U.S. economy is far less reliant on gas expenditures and foreign oil, Harvey said. As things stand, both the Fed and the European Central Bank seem determined to bring inflation down to their target rates, even if that takes a while and could entail a recession. Although inflation is higher and more persistent than either central bank expected, the change in expectations that is necessary to generate stagflation does not seem to have happened. The consensus among economists is that productivity has to be increased to the point where it will lead to higher growth without additional inflation. This would then allow for the tightening of monetary policy to rein in the inflation component of stagflation.
In its strictest sense, stagflation refers to a stretch of rising unemployment coupled with sharply increasing prices. Whatever the explanation, we have seen inflation persist during periods of economic https://www.investorynews.com/ stagnation since the 1970s. Because transportation costs rose, producing products and getting them to shelves became more expensive and prices rose even as people were laid off from their jobs.