What Is Stagflation?

What Is Stagflation?

By   Kimberly Amadeo    Updated on July 1, 2021

Key Takeaways

• Stagflation is stagnant economic growth plus high inflation and high unemployment.

• It is caused by conflicting contractionary and expansionary fiscal policies.

• Stagflation got its name during the 1973-1975 recession, when GDP growth was negative for five quarters.

• Because of changes in policy and economic conditions, stagflation is unlikely to reoccur today.

Definitions and Examples of Stagflation

Stagflation is a combination of stagnant economic growth, high unemployment, and high inflation.1 It's an unnatural situation because inflation is not supposed to occur in a weak economy.

In a normal market economy, slow growth prevents inflation. As a result, consumer demand drops enough to keep prices from rising. Stagflation can only occur if government policies disrupt normal market functioning.

If you compare U.S. GDP by year to inflation by year, you'll find stagflation in the United States occurred during the 1970s.

The federal government manipulated its currency to spur economic growth. At the same time, it restricted supply with wage-price controls.2

In 2008, the Zimbabwean government printed so much money it went beyond stagflation and turned into hyperinflation.3

How Does Stagflation Work?

Stagflation occurs when the government or central banks expand the money supply at the same time they constrain supply.4 The most common culprit is when the government prints currency. It can also occur when a central bank's monetary policies create credit. Both increase the money supply and create inflation. 

At the same time, other policies slow growth. That happens, for instance, if the government increases taxes. It can also occur when the central bank raises interest rates. Both prevent companies from producing more. When conflicting expansionary and contractionary policies occur, it can slow growth while creating inflation.5 That's stagflation.

Stagflation During the 1970s

Stagflation got its name during the 1973-1975 recession. There were five quarters when gross domestic product was negative.2

GDP GROWTH    Q1         Q2      Q3        Q4

1973    10.3%      4.4%-    2.1%    3.8%

1974    -3.4%       1.0%     -3.7%    -1.5%

1975    -4.8%      2.9%    7.0%     5.5%

Unemployment peaked at 9% in May 1975, two months after the recession ended.6

 Inflation tripled in 1973, rising from 3.6% in January to 8.7% in December. It rose to a range of between 10% and 12% from February 1974 through April 1975.7

How did this happen? Many experts blame the 1973 oil embargo. That's when OPEC cut its oil exports to the United States. Prices quadrupled, triggering inflation in oil.8

The 1973 oil embargo alone wasn't enough to cause stagflation. Instead, it was a combination of fiscal and monetary policy that created it.

It started with a mild recession in 1970. GDP was negative for two quarters. Unemployment rose to 6.1%. President Richard Nixon was running for re-election. He wanted to boost growth without triggering inflation. 

On August 15, 1971, he announced three fiscal policies. They got him re-elected. They also sowed the seeds for stagflation. A video of Nixon's speech shows the announcement of significant economic policy changes known as the Nixon Shock.9

The Nixon Shock

The Nixon Shock was comprised of three actions that Nixon took.

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