Stagflation is characterized by slow economic growth and relatively high unemployment—or economic stagnation—which is at the same time accompanied by rising prices (i.e., inflation). Stagflation can be alternatively defined as a period of inflation combined with a decline in the gross domestic product (GDP).

Stagflation was first recognized during the 1970s when many developed economies experienced rapid inflation and high unemployment as a result of an oil shock.1

The prevailing economic theory at the time could not easily explain how stagflation could occur.

Since the 1970s, rising price levels during periods of slow or negative economic growth have become somewhat of the norm rather than an exceptional situation.

In 2022 Google searches for the term “stagflation” have spiked amid signs of a global energy crunch: Oil touched $80 a barrel last week, the highest price in three years, as natural gas set records in Europe and an energy crisis in China threatens to puncture growth.

Bottlenecks in supply chains, meanwhile, are pushing up prices as factory shutdowns rock the global economy. Financial markets are caught between between stagflation worries and hopes that gross domestic product will pick up speed, said Alberto Gallo, a portfolio manager at Algebris Investments.

What causes stagflation? 

Stagflation is a perfect storm of economic ills: slow economic growth, high unemployment, and high prices. The two root causes of stagflation economists generally agree upon are supply shocks and fiscal and monetary policies.

A supply shock is anything that reduces the economy’s capacity to produce goods and services at given prices. For example, throughout the pandemic, there have been supply shocks in:

• Labor, with fewer people working

• Goods, for example, semiconductor shortages, which started even before the pandemic

• Services, as people postponed elective surgeries and other health-care procedures

Example of Stagflation

Stagflation is costly and difficult to eliminate, both in social and fiscal terms. There are only a few examples in history. The most notable one occurred in the 1970s in the United States.

The onset of stagflation In the 1970s was blamed on the US Federal Reserve’s unsustainable economic policy during the boom years of the late 1950s and 1960s. The Fed moved to keep unemployment low and boost overall demand for products and services in the 1960s. 

How can small businesses prepare for stagflation?

  • Take advantage of the current strong job market:  

Even if the economic growth slows, businesses would still have a demand for workers. Take advantage of that by negotiating a raise or looking for a new position. Data suggests that job switchers see bigger pay gains. 

  • Plan for emergencies ahead 

Use some freed-up cash to start a new emergency fund or keep adding it to an existing one. Experts recommend that building up at least six months of your expenses in cash can act as a cushion for a period of joblessness. 

  • Think about your bear-market strategy 

No investor likes to take losses, especially if that money is going toward, one’s retirement or a long-term goal. However, in times of severe market volatility, avoiding overreactions is important. Avoid selling off and diversify your investments.  

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