With rising inflation and slowing job growth, there’s a renewed discussion around the term “stagflation,” which many view as a troubling economic scenario combining escalating prices with stagnant growth—essentially leaving consumers squeezed in their financial routines.
“The specter of stagflation is becoming more pronounced,” noted Harvard Economics Professor Jason Furman in a recent post. “The Federal Reserve faces a tough situation with the current economic climate.”
This warning was triggered by new data revealing that consumer prices jumped 2.9% in August, marking the fastest increase since January, while the unemployment rate hit 4.3%, its highest in four years.
Such conditions pose a challenge for Federal Reserve policymakers, who need to strike a balance between supporting the labor market and managing inflation, aiming for that 2% target.
This dilemma echoes the economic landscape of the late 1970s and early 1980s when inflation and unemployment soared into double digits.
Although the numbers today seem milder, there’s concern that these trends could tie the Fed’s hands moving forward.
Understanding “Stagflation”
Stagflation—a blend of “stagnation” and “inflation”—describes a situation where economic growth stalls while living costs skyrocket. This seems counterintuitive since typically, an economic slowdown cools demand and dampens prices, but stagflation contradicts this expectation, allowing prices to rise despite a lack of growth.
The term was first coined in 1965 by British politician Ian MacLeod, who referred to it as “the worst of both worlds.”
Americans became acquainted with stagflation during the 1970s when the inflation rate surpassed 9%. Contributing factors included a series of oil price shocks and loose monetary policies that compounded issues over several years.
Current inflation at 2.9% and an unemployment rate of 4.3% are relatively tame compared to historic highs, yet both are trending in directions that raise concerns.
There’s uncertainty surrounding when stagflation may appear again, and it’s possible that if it does, the impact may not be as severe as what was experienced decades ago.
Why Stagflation is Concerning
Stagflation can significantly strain consumers’ budgets amid already challenging financial circumstances, presenting a complex issue for the Fed, which aims for maximum employment and stable prices.
Traditionally, the Fed raises interest rates to address inflation while decreasing them to tackle unemployment. However, with both factors simultaneously problematic, the usual strategies don’t apply effectively.
In April, Fed Chair Jerome Powell highlighted concerns that new tariffs introduced by President Trump were “greater than anticipated.”
Since that time, inflation has eased, job markets have softened, and the labor market dynamics have shifted, revealing weaknesses that might not have been evident before.
The Fed is projected to cut interest rates in an upcoming meeting, attempting to boost job growth even as inflation outpaces that 2% goal.
As Bankrate analyst Sarafoster recently pointed out, the key question for the Fed is how confident they can be in cutting rates with inflation still so far from their target.
How Might Stagflation Differ This Time?
While stagflation could recur, it doesn’t necessarily mean it will be as severe or prolonged as in the past.
Fidelity recently noted that many of the drivers behind previous stagflation episodes, like oil crises and aggressive wage inflation—from unions—are not present today.
“Things aren’t perfect, but they aren’t devastating. The economy still seems to be expanding,” remarked Bradford Painalto from Fidelity.
Although inflation has ticked up since Trump’s tariff announcement, the anticipated sharp hikes haven’t materialized. Powell suggested that the effects of tariffs on inflation might be relatively short-lived, a view he described as a reasonable assessment.
With unemployment now at 4.3%, and aside from healthcare, many job seekers are finding it tough. Still, we’re far from the 10% levels seen in the early 1980s.
The outcome might lead to a scenario described as “stagflation light,” where inflation persists without significantly rising growth. It’s a challenging picture, but perhaps better than the worst-case alternatives.
“Severe stagflation is rare and is likely to remain that way,” emphasizes Kris Wu, Vice President and Senior Portfolio Manager at Federate Hermes.
