In economics, stagflation is when the inflation rate is high, the economic growth rate slows, and unemployment remains steadily high. It presents a dilemma for economic policy since actions that lower inflation may exacerbate unemployment and vice versa.
There are several explanations for why stagflation occurs:
- A decrease in aggregate demand (AD) due to high-interest rates (the “liquidity trap”);
- Increases in the money supply without a corresponding increase in AD;
- Decreases in productivity (“supply-side shocks”); or
- Structural rigidities limit an economy’s ability to adjust prices.
Most economics textbooks offer one or two of these explanations as being correct; however, stagflation is a complex phenomenon with no single cause.
Table of Contents
What is stagflation?
Stagflation is a situation that occurs when there is a combination of high inflation and high unemployment. It can be difficult to deal with because both problems need to be addressed, but they can often conflict. For example, if the government increases interest rates to reduce inflation, this may make unemployment worse.
What causes stagflation?
There are a variety of factors that can contribute to stagflation, including:
-Supply-side shocks occur when a sudden decrease in the supply of a good or service leads to higher prices. For example, an oil embargo could lead to higher gasoline prices, which would, in turn, lead to inflation.
-Demand-side shocks occur when a sudden decrease in demand for a good or service. For example, a recession could lead to lower demand for housing, leading to falling house prices.
-Monetary policy: If the central bank increases interest rates to control inflation, this can lead to slower economic growth and higher unemployment (stagflation).
What happens to house prices during stagflation?
In most cases, stagflation results in a decrease in the overall value of houses. This is because people are less likely to buy homes and invest in property when the economy is struggling. Furthermore, during periods of inflation, the cost of living goes up while wages remain stagnant. This means people have less money to spend on things like home buying.
How can you protect your house during stagflation?
Most people think of stagflation as a time when prices rise, and the economy weakens. While this is technically true, it’s important to understand that stagflation can directly impact house prices.
In periods of stagflation, buyers are often hesitant to purchase big-ticket items like houses. This can lead to a decrease in demand and, ultimately, prices. If you’re considering selling your house during stagflation, it’s important to be realistic about your expectations.
You can also do several things to protect your house during stagflation. One option is to invest in home improvements to make your property more appealing to buyers. Another option is to rent your property, which can help offset any potential decreases in value.
Whatever you do, it’s important to stay informed and ensure you know how stagflation could impact your most valuable asset – your home.
Conclusion
Though stagflation typically imposes serious challenges for central banks and other policymakers, in some cases, it may present opportunities for shrewd investors. In the early 1980s, for example, US stagflation coincided with a dramatic increase in real estate and stock prices.
Of course, predicting stagflation is never easy, and even if you correctly anticipate the phenomenon, there’s no guarantee that your investment strategy will pay off. But if you keep your eye on the key indicators of stagflation—such as inflation, unemployment, and GDP growth—you may be able to spot the next “stagflationary” episode before it happens.
