Glossary
Stagflation
An economy suffering high inflation, weak or negative growth and rising unemployment at the same time, as the US did in the 1970s.
Stagflation is the combination of stagnant growth, rising unemployment and high inflation at the same time. The word joins "stagnation" and "inflation." It is feared because it breaks the usual policy playbook: the tools that fight inflation tend to deepen a slowdown, and the tools that fight a slowdown tend to feed inflation.
How it arises
Stagflation is most often triggered by a supply shock, a sudden rise in the cost of producing goods. If oil prices double, businesses pay more for energy and transport, raise prices, and cut output and jobs at once. It can become entrenched when workers and firms start to expect high inflation and build it into wages and contracts.
The US case in the 1970s is the standard example. After the 1973 oil embargo, consumer price inflation topped 12% at the end of 1974, while the unemployment rate climbed to 9% by May 1975. A second oil shock in 1979 pushed inflation even higher.
Why it matters to investors
In stagflation, central banks face a choice. The Federal Reserve under Paul Volcker chose to raise interest rates sharply from 1979, which broke inflation but helped cause the 1980 and 1981–82 recessions. Stocks and conventional bonds both tend to suffer in such periods: earnings fall while rising yields reduce what future profits are worth. Assets whose cash flows rise with prices, such as TIPS, tend to hold up better, though nothing is reliably protected.