What Is Stagflation? Why Are We Afraid Of It In 2022?

The aftermath of the COVID-19 pandemic has worsened the downturn in the global economy, which is entering what might become an era of sluggish growth and increased inflation, according to the World Bank’s latest Global Economic Prospects report. This enhances the possibility of stagflation, which can result in negative outlook for middle- and low-income countries equally. To avoid the negative impacts of stagflation, it’s better to educate ourselves: What is stagflation? And why are we afraid of it in 2022?

What is stagflation?

Stagflation was formerly thought to be impossible. At first, the Phillips Curve Theory – the economic theories that dominated academic and policy circles for most of the twentieth century, described macroeconomic policy as a trade-off between unemployment and inflation. It claimed that lower inflation increased unemployment, but programs aimed to reduce unemployment increased inflation.   

Stagflation is a combination of economic stagnation and inflation.

However, the emergence of stagflation 1970s demonstrated that the theory was not always right. Stagflation is an excellent example of how real-world experience can trample on commonly held economic theory and policy prescriptions. Stagflation occurs when the economy experiences both economic stagnation (stalling or declining production) and rising inflation. Furthermore, a weak economy will increase unemployment. Economic officials find this combination especially challenging to manage since alleviating one condition might worsen another.

Stagflation and depression both cause inflation, rising unemployment, and an underperforming economy. However, stagflation can last over a decade and can include periods of recession, whereas depressions normally last no longer than a year.

What causes stagflation?

While there are several reasons why high inflation and a stagnant economy might coexist. Supply shock and weak economic policies are the most common.

It is believed that stagflation occurs when a rapid spike in the important resources decreases an economy’s productive potential. Stagflation 1970s caused by the oil crisis is a great example. The Organization of Petroleum Exporting Countries (OPEC) imposed an embargo on Western countries in October 1973. This led the worldwide price of oil to skyrocket, raising the cost of commodities and leading to an increase in unemployment.

Another theory contends that the combination of stagnation and inflation is the outcome of weak economic policies. Stagflation may be caused by harsh control of markets, products, and labor in an inflationary environment. Some blame former President Richard Nixon’s actions for the 1970 recession, which may have been a prelude to subsequent episodes of stagflation 1970s. In an attempt to keep costs from increasing, Nixon imposed taxes on imports and froze wages and prices for 90 days. The quick escalation of prices when the limits were lifted caused an economic crisis.

Economy now vs. in the 1970s 

Stagflation plagued the American economy throughout the 1970s, as the country endured two recessions, persistently high unemployment, and rising living costs.

Many people are afraid that stagflation will come back in 2022. So to know if the stagflation 2022 will actually occur, we are now doing some simple comparison. According to the World Bank, today’s situation is similar to the stagflation 1970s, such as:

• Supply chain disruptions are contributing to higher consumer pricing.
• Costs are rising as a result of rising commodity prices.
• To combat inflation, central banks are boosting interest rates.

What’s different today:

• Global central banks, like the United States Federal Reserve, are now primarily focused on decreasing inflation rather than seeking to maintain healthy employment. However, and the ongoing challenges from the coronavirus outbreak make the Fed’s enormous, sluggish shift in inflation more difficult to direct.
• The dollar is rising in value against other currencies.

Are we heading for a stagflation 2022 ?

Despite the Fed’s consecutive rate hikes, consumer prices have just recently begun to decline. The economy is just starting to slow down, but it is still highly resilient. Employment rate continues to grow while the unemployment rate stays low. As a result, the United States has not yet been facing stagflation.

The Fed has already fought against stagflation.

Reversing excessive consumer prices necessitates a delicate balance of government intervention: slowing the US economy just enough to alleviate consumer demand without entering a recession or precipitating stagflation.

On the other hand, according to the World Bank, an international supplier of government loans, grants and other resources, global stagflation is a serious possibility. Also, Erik Lundh, a principal economist at The Conference Board, stated in a report: “The Conference Board believes the U.S. economy is exhibiting stagflationary characteristics (weak growth and high inflation) and forecasts that a full recession will emerge before year end”.

Nonetheless, we still can expect a positively bright future where the stagflation does not come into real practice. Because of the experiences gained from the old stagflation in the 1970s, Fed has already taken into action the move against stagflation by increasing interest rates.

What  to do in case of stagflation 2022

Stagflation has no specific treatment. Economists agree that productivity must be enhanced to the degree where it leads to higher growth without further inflation. This would therefore allow monetary policy to be tightened to control the inflation component of stagflation.

That is easier said than done, thus the key to avoiding stagflation is for economic officials to be highly aggressive in averting it.