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Updated May 8.
High prices and a weak national economy are close to a perfect storm for consumers. With stagflation, households struggling to make ends meet face possible employment insecurity, too.
It’s the very scenario that Federal Reserve Chair Jerome Powell described in recent remarks. “If the large increases in tariffs that have been announced are sustained, they’re likely to generate a rise in inflation, a slowdown in economic growth, and an increase in unemployment,” Powell said during a press conference on May 7 following the Federal Open Markets Committee (FOMC) decision to pause the federal funds rate for the third time.
In other words, current tariff policies are putting the U.S. at risk of stagflation. But understanding how stagflation works could help you prepare for its impact. Here’s what you need to know.
What is stagflation?
Stagflation is a mashup of the words "inflation" and "stagnation." It's when higher consumer costs merge with rising unemployment and little, if any, economic growth.
The Federal Reserve attempts to lower inflation by raising interest rates and slowing an overheated economy. However, stagflation can result if the economy stalls and prices don't fall significantly following the Fed's interest rate hikes.
Stagflation is not the same as a recession, but the two concepts are closely related. Stagflation occurs in a faltering economy with negligible growth. In a recession, the economy is declining.
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When did stagflation last occur?
Stagflation dogged the American economy in the 1970s, as the country suffered through two recessions, stubbornly high unemployment and an elevated cost of living.
Stagflation concerns returned in 2022, but the U.S. has avoided repeating history so far. When inflation surged, the Fed responded by making 11 straight rate hikes and then pausing the federal funds rate for a year. This series of decisions helped to curb inflation. Despite the prolonged period of high inflation and high interest rates, the economy continued to grow and unemployment remained low.
There were some similarities between high inflation in 2022 and the stagflation era of the 70s through early 80s, according to the World Bank:
- Supply chain interruptions were adding to higher consumer prices.
- Rising commodity prices were contributing to higher costs.
- Central banks were raising interest rates to reduce inflation.
What was different:
- In 2022, global central banks — including the U.S. Federal Reserve — were solely focused on lowering inflation rather than also attempting to preserve robust employment. However, the war in Ukraine and continuing complications from the coronavirus pandemic made the Fed’s massive, slow turn in inflation harder to steer.
- The dollar was gaining value against foreign currencies.
Are we experiencing stagflation now?
The U.S. is not experiencing stagflation now but the risk appears to be increasing. Economists say that the Trump administration’s broad tariff plans will be a drag on the economy and could reignite inflation, which has slowed over the past year. With tariffs in place on nearly all U.S. imports, prices have started to rise at the consumer level.
Investors, business leaders and consumers alike appear pessimistic about the future of the economy, especially amid the uncertainty of how long tariffs will last or how severe they will be. That fear and uncertainty could lead to a pullback in spending at every level, which would slow economic growth. However, it’s not clear what effect that would have on prices.
The Fed — which has a dual mandate to maximize employment and ensure price stability — is waiting to see what happens as tariffs play out before taking any action to avoid stagflation. In an April 16 speech to the Economic Club of Chicago, Powell said that in the event prices rise and growth slows, the Fed will have to walk a fine line between its competing goals. “We would consider how far the economy is from each goal, and the potentially different time horizons over which those respective gaps would be anticipated to close,” he said.
So far, the Fed has delayed cuts to the federal funds rate despite pressure from President Donald Trump and others who want to see it take steps to counter an economic slowdown.
How can you prepare for stagflation?
Preparing for possible stagflation is much like getting ready for a recession or any other financial setback:
- Save money. Build or replenish your emergency fund and keep that cash cushion handy, just in case.
- Reduce debt. As the Fed continues to raise interest rates, the short-term cost of borrowing money — such as credit card debt — will continue to increase.
- Delay major purchases and expenditures. Consider postponing significant outlays. In tough times, cash is king. (Though don't tap or interrupt your long-term savings accounts, such as investments for retirement.)
- Keep career advancement opportunities in mind. With the job market tightening, it might be wise to keep your eyes open for ways to increase your employment value and your income.
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