Should We be Worried About Stagflation?

What is Stagflation?

The word stagflation is a portmanteau, or a combination of multiple words. It is a combination of the words stagnant and inflation. The word was first coined by Iain Macleod, a British politician, in 1965. 

It is used to describe an economic situation in which there’s little to no economic growth, surging prices and rising unemployment rate. This is an unusual situation because rising prices usually indicate booming demands, and as demands soar, the unemployment rate usually declines.

There is still no definitive explanation as to what causes it to occur. However, economists propose two factors that most likely cause stagflation. The first is supply shock, such as the skyrocketing oil price, that tends to increase prices and at the same time slow down economic growth as production becomes more expensive. 

The second is the economic missteps by governments by simultaneously making policies that severely affect industry while growing the money supply too quickly. 

History of Stagflation

In the 1970’s, stagflation occurred in the US and other developed countries. In America, the economic stagflation was caused by several factors, including the oil embargo imposed by several middle eastern countries following the US support for Israel in the war of Yom Kippur.

Additionally, as explained by Investopedia, the stagflation was caused by the growing federal budget deficit caused by the Vietnam War and the collapse of the Bretton Woods System that pegged the currencies of developed countries to the U.S. Dollar, which in turn was backed in the global arena by U.S. gold reserves. 

As a result, prices soared and inflation peaked at 13.5 percent by 1980. In addition, the economy was in recession from 1969 to 1970 as well as from 1973 to 1975. When not in recession, the GDP grew by 5 percent in 1972 to 1973, and above 5 percent in 1976-1978. 

The uneven economic growth led to widespread dissatisfaction. In November 1979, only 19 percent of Americans felt satisfied with the way things were going.    

Is Another Stagflation Looming?

As the world is still dealing with the global outbreak of COVID-19, coupled with the war between Russia and Ukraine that disrupts the global economy, the World Bank has warned that the risk of stagflation can potentially harm middle and low-income economies alike. 

According to the World Bank’s Global Economic Prospects report, the COVID-19 pandemic and the war in Ukraine has worsened the slowdown of the global economy, which is entering a period of potential period of feeble growth and rising inflation. 

“The war in Ukraine, lockdowns in China, supply-chain disruptions, and the risk of stagflation are hammering growth. For many countries, recession will be hard to avoid,” said World Bank President David Malpass.

There are three similarities between the current economic condition compared with the stagflation in the 1970’s. Firstly, there are persistent supply-chain disturbances that fuel inflation after a prolonged period of accomodative monetary policy in major advanced economies. Secondly, there are prospects for weakening growth. Thirdly, there are vulnerabilities that the emerging markets and developing economies face in relation to the monetary policy tightening that will be needed to curb inflation. 

However, there are several aspects that make the current economic situation different from that in the 1970’s. Unlike in the 1970’s the dollar is currently strong, and the increase in commodity prices is smaller. Additionally, the balance sheets of major financial institutions are strong. Lastly, the central banks in major economies and developing countries are clearly mandated to work for price stability after they have made credible track records of achieving their inflation targets. 

What to Do When Stagflation Does Occur

Although whether or not another stagflation is bound to happen is not crystal clear, there are steps that we can take to strengthen our financial foundation in the face of a potential economic downturn. 

We can begin by gathering at least six months’ worth of daily expenses to prepare for emergency situations. Manage your budget to determine which spending you can cut out. 

In addition, with the rising unemployment rate, make yourself more appealing to the job market by investing more in yourself. 

“Make sure you’ve really brushed up on your skills and competencies or education so that if the job market gets tighter, you’re marketable,” said Ted Jenkin, a certified financial planner and the CEO of Atlanta-based Oxygen Financial, reported by CNBC

If you wish to invest, historically, gold has proven to be an asset that performs quite well during periods of stagflation. It tends to appreciate in value during times of high economic uncertainty and volatility as a result of stagnation.

However, beyond profits and losses, we can also make positive impacts by investing in something that helps sustain small and medium enterprises during economic uncertainty. ALAMI P2P offers you a chance to finance Indonesian SMEs. As of June, ALAMI has disbursed over IDR 3 Trillion to support Indonesian SMEs through its sharia-driven platform. 

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