Stagflation

The term stagflation, a blend of "stagnation" and "inflation," was popularized by British politician Iain Macleod in the 1960s, during a period of economic distress in the United Kingdom.

It gained broader recognition in the 1970s after a series of global economic shocks, particularly the 1973 oil crisis, which disrupted supply chains and led to rising prices and slowing growth.

Stagflation challenges traditional economic theories, which suggest that inflation and unemployment are inversely related, as depicted by the Phillips Curve.

The term, a portmanteau of stagnation and inflation, is generally attributed to Iain Macleod, a British Conservative Party politician who became Chancellor of the Exchequer in 1970.

Policy makers also made "inaccurate estimates of the degree of excess demand in the economy, [which] contributed significantly to the outbreak of inflation in the United Kingdom in the 1960s and 1970s.

[6] After inflation rates began to fall in 1982, economists' focus shifted from the causes of stagflation to the "determinants of productivity growth and the effects of real wages on the demand for labor".

[15][16] There is evidence supporting the second explanation against the supply shock view that the 1970s stagflation was due to OPEC's quadrupling of oil prices in October 1973.

The stagflation became more severe in the early 1970s but was suppressed by the price controls and wage freeze imposed by President Nixon starting in August 1971 and through 1972.

Arguably, if there were no wage-price controls, the mini stagflation documented above would have been clearly evident before the October 1973 OPEC oil price hike.

This pattern of an overheated economy, leading to inflation, dollar depreciation, and then to higher oil prices and another bout of stagflation repeated itself in 1979.

It began with a large rise in oil prices, but then continued as central banks used excessively stimulative monetary policy to counteract the resulting recession, thereby causing a price/wage spiral.

[citation needed] Up to the 1960s, many Keynesian economists ignored the possibility of stagflation, because history suggested high unemployment correlated with low inflation, and vice versa (the Phillips curve).

[22] In this view, stagflation is thought to occur when there is an adverse supply shock (for example, a sudden increase in the price of oil or a new tax) that causes a subsequent jump in the "cost" of goods and services (often at the wholesale level).

[23] In the resource scarcity scenario (Zinam 1982), stagflation results when a restricted supply of raw materials inhibits economic growth.

The resource shortage may be real or relative due to factors such as taxes or bad monetary policy influencing the "cost" or availability of raw materials.

The price controls resulted in shortages at the point of purchase, causing, for example, queues of consumers at fuelling stations and increased production costs for industry.

Another neoclassical explanation of stagnation is given by real business cycle theory, in which any decrease in labour productivity makes it efficient to work less.

Thus the main explanation for stagflation under a classical view of the economy is simply policy errors that affect both inflation and the labour market.

The various belligerent Governments, unable, or too timid or too short-sighted to secure from loans or taxes the resources they required, have printed notes for the balance.

The presumption of a spurious value for the currency, by the force of law expressed in the regulation of prices, contains in itself, however, the seeds of final economic decay, and soon dries up the sources of ultimate supply.

A system of compelling the exchange of commodities at what is not their real relative value not only relaxes production, but leads finally to the waste and inefficiency of barter.

[citation needed] Political economists Jonathan Nitzan and Shimshon Bichler have proposed an explanation of stagflation as part of a theory they call differential accumulation, which says firms seek to beat the average profit and capitalisation rather than maximise.

When mergers and acquisitions are no longer politically feasible (governments clamp down with anti-monopoly rules), stagflation is used as an alternative to have higher relative profit than the competition.

It largely attributed inflation to the ending of the Bretton Woods system in 1971 and the lack of a specific price reference in the subsequent monetary policies (Keynesian and Monetarism).

Supply-side economists asserted that the contraction component of stagflation resulted from an inflation-induced rise in real tax rates (see bracket creep).

Stagflation is the natural result of monetary pumping which weakens the pace of economic growth and at the same time raises the rate of increase of the prices of goods and services.

"[38][better source needed][excessive quote] In 1984, journalist and activist Jane Jacobs proposed the failure of major macroeconomic theories[notes 1] to explain stagflation was due to their focus on the nation as the salient unit of economic analysis, rather than the city.

According to Jacobs, import-replacing cities are those with developed economies that balance their own production with domestic imports—so they can respond with flexibility as economic supply and demand cycles change.

[citation needed] Federal Reserve chairman Paul Volcker very sharply increased interest rates from 1979 to 1983 in what was called a "disinflationary scenario".

[42] Volcker is often credited with having stopped at least the inflationary side of stagflation,[citation needed] although the American economy dipped into a recession with the unemployment rate peaking at 10.4% in February 1983.