Analysts are warning that the war on Ukraine could throw the United States and other countries into stagflation. But what does that mean, and what does that mean for regular people?
The last time the United States experienced true stagflation was in the 1970s, so if you’re under 40 you may never have heard the term until now. Economists are talking about stagflation because inflation is now higher than it has been since 1981, so if growth slows down, we’ll be in stagflation.
This is one reason why you might consider preparing for a coming recession. Here’s how stagflation works and what it means for consumers.
Stagflation = stagnation + inflation
Stagflation, or recession-inflation, is a specific economic condition in which inflation is rampant, unemployment is high, and demand for goods and services is stalled. The word stagflation was coined in the United Kingdom in the 1960s, when the UK was experiencing slow growth and high inflation.
In plain language, stagflation means that everything costs too much and prices are going up all the time, a large number of people are unemployed, and no one is spending money, so companies can’t hire more people. It’s high inflation and slow growth at the same time.
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Stagflation means things are really bad
Stagflation doesn’t just come out of nowhere. It can happen from a sharp sudden shock to the economy, but most of the time, even a sharp sudden shock, such as the 2008 market crash, doesn’t cause stagflation.
The sharp sudden shock has to raise prices suddenly on a product most consumers need. The stagflation of the 1970s started because OPEC led an embargo that made crude oil prices double over a two-year period, known as the Oil Shock of 1973-74, and the stagflation continued because of the Oil Shock of 1978-79.
Gas prices have escalated so rapidly today because of the war on Ukraine that this could be the exact type of shock that causes stagflation again. Analysts think that stagflation could be avoided if the war ends in the next few months.
Stagflation decreases real income and purchasing power
A sign of stagflation is that people can’t afford the essentials of daily life anymore. Stagflation feels like a trap, like you don’t have the money to buy anything and prices are only going higher, and there’s no prospect of earning more money.
Stagflation feels so miserable to consumers that it led to the development of the “misery index,” a measure of how much economic distress consumers feel. The misery index is calculated by adding the unemployment rate to the inflation rate.
Regardless of how it feels emotionally, stagflation actually does reduce a household’s real income by raising the cost of living while keeping wages stalled, which means consumers can’t buy as much as they could yesterday.
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Stagflation causes weakness across the system
When consumers can’t buy anything because they can’t afford to, and demand stalls, businesses fail and unemployment rises even more. The entire economy, including the people and businesses that make up the economy, gets into a spiral with less and less money changing hands in the form of wages and revenues.
That means that no one has any extra, so there’s no margin for error, and businesses and people are on the edge constantly, with no safety net.
Stagflation probably won’t correct itself
There are some economic situations that are cyclical, which is why the stock market tends to go up and down while still increasing over the long term. But stagflation is a tightening of the market in both the labor and spending directions, so it isn’t likely to correct itself.
Government agencies have the ability to manipulate interest rates and create stimulus packages to break us out of stagflation, however. This will cause other complications, so it isn’t the best scenario.
If the benefits of manipulating the economy outweigh the negative effects of interfering, these agencies are likely to act, as they have during past episodes of stagflation and recession.
You’re already prepared for stagflation
Despite the dangers of stagflation, this is a better-than-usual time for individual people to be confronting this potential crisis. Because of the pandemic, many of us have reduced expenses, especially expenses on gas and eating out.
This means that the highly inflated gas prices aren’t as significant a shock to individual consumers as they would have been three years ago. And so many restaurants went under during the pandemic that if consumers stop going to restaurants on a wide scale again because of stagflation, the restaurants that would be hardest hit have already disappeared.
A few more proactive moves can help you protect yourself even more in case stagflation happens.
Pro tip: Try these money moves before you buy gas to ease the pain of pulling up to the pump.
Reduce your exposure
Reevaluate what you spend and how you prioritize spending right now to reduce the things you’re dependent on that can keep increasing in price.
At the same time, we all need to keep spending money at local businesses to keep growth happening. This means cutting expenses that go to infrastructure, such as gas for driving, heating and cooling your house, and electricity and water.
In the short term this will give you more money for discretionary spending, which helps ward off stagflation, and if stagflation happens, you’ll be able to ride it out with lower basic expenses.
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Diversify your income
Consider taking on one or two of the best side hustles to create another income stream. This way, if your job gets eliminated or your hours get cut, you’ll still have money to live on.
And if your job stays secure, you can use the money from your side hustle to pay down debt and build up your retirement savings.
If you haven’t started a retirement plan yet, now is the perfect time to learn about investing basics and get started. If you’re already investing, keep putting money away when you can.
Because stagflation affects the entire economy and not just individual people, keeping yourself afloat is only a temporary survival tactic, not a solution.
Staying connected to the rest of your community so you can provide mutual aid, encouraging your community government to provide services for community members to help everyone thrive, and checking in on everyone regularly will help us all come through stagflation together if it happens.
Stagflation is a real possibility, so it’s worth taking the time to learn what it is. Stagflation is a recession, but with the added stress of high inflation. It’s essentially a stand-off in the job market with rising prices, and it makes regular people anxious and miserable about money.
We’re on the brink of stagflation right now, but there is no guarantee that stagflation will happen. It’s worth making a few simple moves to protect yourself, like boosting your bank account to help you whether whatever may come.
Whether we go into stagflation or not, you’ll be able to afford to live.