In economics, the term stagflation refers to the situation when both the inflation rate and the unemployment rate are high. It is a difficult economic condition for a country, as both inflation In economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time. When the price level rises, each unit of currency buys fewer goods and services; consequently, inflation is also an erosion in the purchasing power of money – a loss of real value in the internal medium of exchange and unit and economic stagnation Economic stagnation or economic immobilism, often called simply stagnation or immobilism, is a prolonged period of slow economic growth . Under some definitions, "slow" means significantly slower than potential growth as estimated by experts in macroeconomics. Under other definitions, growth less than 2-3% per year is a sign of occur simultaneously and no macroeconomic policy can address both of these problems at the same time.^[1]

The portmanteau A portmanteau (pronounced /pɔrtmænˈtoʊ/ , plural: portmanteaus or portmanteaux) or portmanteau word is used to mean a blend of two (or more) words or morphemes and their meanings into one new word. In linguistics, a portmanteau is defined as a single morph which represents two or more morphemes stagflation is generally attributed to British politician A politician or political leader is an individual who is involved in influencing public decision making. This includes people who hold decision-making positions in government, and people who seek those positions, whether by means of election, coup d'état, appointment, electoral fraud, conquest, right of inheritance (see also: divine right) or Iain Macleod, who coined the term in a speech to Parliament The Parliament of the United Kingdom of Great Britain and Northern Ireland is the supreme legislative body in the United Kingdom and British overseas territories. Parliament alone possesses legislative supremacy and thereby ultimate power over all other political bodies in the UK and its territories. At its head is the Sovereign, Queen Elizabeth in 1965.^[2][3][4] The concept is notable partly because, in postwar macroeconomic theory, inflation and recession were regarded as mutually exclusive, and also because stagflation has generally proven to be difficult and, in human terms as well as budget deficits, very costly to eradicate once it gets started. In the political arena a simple measure of Stagflation termed the Misery Index (derived by the simple addition of the inflation rate to the unemployment rate) was used to swing Presidential elections in the United States in 1976 and 1980.

Economists offer two principal explanations for why stagflation occurs. First, stagflation can result when the productive capacity of an economy is reduced by an unfavorable supply shock, such as an increase in the price of oil for an oil importing country. Such an unfavorable supply shock tends to raise prices at the same time that it slows the economy by making production more costly and less profitable.^[5][6][7] This type of stagflation presents a policy dilemma because actions that are meant to assist with fighting inflation might worsen economic stagnation and vice versa.

Second, both stagnation and inflation can result from inappropriate macroeconomic policies. For example, central banks can cause inflation by permitting excessive growth of the money supply In economics, the money supply or money stock, is the total amount of money available in an economy at a particular point in time. There are several ways to define "money," but standard measures usually include currency in circulation and demand deposits,^[8] and the government can cause stagnation by excessive regulation of goods markets and labor markets,^[9] Either of these factors can cause stagflation. Excessive growth of the money supply In economics, the money supply or money stock, is the total amount of money available in an economy at a particular point in time. There are several ways to define "money," but standard measures usually include currency in circulation and demand deposits taken to such an extreme that it must be reversed abruptly can clearly be a cause. Both types of explanations are offered in analyses of the global stagflation of the 1970s: it began with a huge rise in oil prices, but then continued as central banks used excessively stimulative monetary policy to counteract the resulting recession, causing a runaway wage-price spiral.^[10]

Postwar Keynesian and monetarist views

Early Keynesianism and monetarism

Up to the 1960s many Keynesian Keynesian economics is a macroeconomic theory based on the ideas of 20th century British economist John Maynard Keynes. Keynesian economics argues that private sector decisions sometimes lead to inefficient macroeconomic outcomes and therefore, advocates active policy responses by the public sector, including monetary policy actions by the central economists ignored the possibility of stagflation, because historical experience suggested that high unemployment was typically associated with low inflation, and vice versa (this relationship is called the Phillips curve In economics, the Phillips curve is a historical inverse relationship between the rate of unemployment and the rate of inflation in an economy. Stated simply, the lower the unemployment in an economy, the higher the rate of increase in nominal wages. While it has been observed that there is a stable short run tradeoff between unemployment and). The idea was that high demand for goods drives up prices, and also encourages firms to hire more; and likewise high employment raises demand. However, in the 1970s and 1980s, when stagflation occurred, it became obvious that the relationship between inflation and employment levels was not necessarily stable: that is, the Phillips relationship could shift. Macroeconomists became more skeptical of Keynesian theories, and the Keynesians themselves reconsidered their ideas in search of an explanation of stagflation.^[11]

The explanation for the shift of the Phillips curve was initially provided by the monetarist Monetarism is the view within monetary economics that variation in the money supply has major influences on national output in the short run and the price level over longer periods and that objectives of monetary policy are best met by targeting the growth rate of the money supply.pp. 492-97 economist Milton Friedman Milton Friedman was an American economist, statistician, and a recipient of the Nobel Memorial Prize in Economics. He is best known among scholars for his theoretical and empirical research, especially consumption analysis, monetary history and theory, and for his demonstration of the complexity of stabilization policy. He was an economic advisor, and also by Edmund Phelps Edmund Strother Phelps, Jr. is an American economist and the winner of the 2006 Nobel Memorial Prize in Economic Sciences. Early in his career he became renowned for his research at Yale's Cowles Foundation in the first half of the 1960s on the sources of economic growth. His demonstration of the Golden Rule of national saving, a concept first. Both argued that when workers and firms begin to expect more inflation, the Phillips curve shifts up (meaning that more inflation occurs at any given level of unemployment). In particular, they suggested that if inflation lasted for several years, workers and firms would start to take it into account during wage negotiations, causing workers' wages and firms' costs to rise more quickly, thus further increasing inflation. While this idea was a severe criticism of early Keynesian theories, it was gradually accepted by the most Keynesians, and has been incorporated into New Keynesian economic models.

Neo-Keynesianism

Contemporary Keynesian analyses argue that stagflation can be understood by distinguishing factors that affect aggregate demand In macroeconomics, aggregate demand is the total p4 demand for final goods and services in the economy (Y) at a given time and price level. It is the amount of goods and services in the economy that will be purchased at all possible price levels. This is the demand for the gross domestic product of a country when inventory levels are static. It is from those that affect aggregate supply In economics, aggregate supply is the total supply of goods and services that firms in a national economy plan on selling during a specific time period. It is the total amount of goods and services that firms are willing to sell at a given price level in an economy. While monetary and fiscal policy can be used to stabilize the economy in the face of aggregate demand fluctuations, they are not very useful in confronting aggregate supply fluctuations. In particular, an adverse shock to aggregate supply, such as an increase in oil prices, can give rise to stagflation.^[12]

Neo-Keynesian theory distinguished two distinct kinds of inflation: demand-pull (caused by shifts of the aggregate demand curve) and cost-push (caused by shifts of the aggregate supply curve). Stagflation, in this view, is caused by cost-push inflation Cost-push inflation is a type of inflation caused by substantial increases in the cost of important goods or services where no suitable alternative is available. A situation that has been often cited of this was the oil crisis of the 1970s, which some economists see as a major cause of the inflation experienced in the Western world in that decade. Cost-push inflation occurs when some force or condition increases the costs of production. This could be caused by government policies (such as taxes), or from purely external factors such as a shortage of natural resources or an act of war.

Supply theory

Fundamentals

Supply theories^[13] are based on the neo-Keynesian cost-push model and attribute stagflation to significant disruptions to the supply side of the supply-demand market equation, for example, when there is a sudden real or relative scarcity of key commodities, natural resources, or natural capital Natural capital is the extension of the economic notion of capital to goods and services relating to the natural environment. Natural capital is thus the stock of natural ecosystems that yields a flow of valuable ecosystem goods or services into the future. For example, a stock of trees or fish provides a flow of new trees or fish, a flow which needed to produce goods and services. Other factors may also cause supply problems, for example, social and political conditions such as policy changes, acts of war, restrictive socialist Socialism is an economic and political theory based on public or common ownership and cooperative management of the means of production and allocation of resources or nationalist Nationalism involves a strong identification of a group of individuals with a political entity defined in national terms, i.e. a nation. Often, it is the belief that an ethnic group has a right to statehood, or that citizenship in a state should be limited to one ethnic group, or that multinationality in a single state should necessarily comprise control of production.^{[citation needed]} In this view, stagflation is thought to occur when there is an adverse supply shock A supply shock is an event that suddenly changes the price of a commodity or service. It may be caused by a sudden increase or decrease in the supply of a particular good. This sudden change affects the equilibrium price (for example, a sudden increase in the price of oil Petroleum or crude oil is a naturally occurring, toxic, flammable liquid consisting of a complex mixture of hydrocarbons of various molecular weights, and other organic compounds, that are found in geologic formations beneath the Earth's surface. Petroleum is recovered mostly through oil drilling. It is refined and separated, most easily by or a new tax) that causes a subsequent jump in the "cost" of goods and services (often at the wholesale level). In technical terms, this results in contraction or negative shift in an economy's aggregate supply curve Supply and demand is an economic model of price determination in a market. It concludes that in a competitive market, price will function to equalize the quantity demanded by consumers, and the quantity supplied by producers, resulting in an economic equilibrium of price and quantity.^{[citation needed]}

In the resource scarcity scenario (Zinam 1982), stagflation results when economic growth is inhibited by a restricted supply of raw materials.^[14][15] That is, when the actual or relative supply of basic materials (fossil fuels (energy), minerals, agricultural land in production, timber, etc.) decreases and/or cannot be increased fast enough in response to rising or continuing demand. The resource shortage may be a real physical shortage or a relative scarcity due to factors such as taxes or bad monetary policy which have affected the "cost" or availability of raw materials. This is consistent with the cost-push inflation factors in neo-Keynesian theory (above). The way this plays out is that after supply shock occurs, the economy will first try to maintain momentum — that is, consumers and businesses will begin paying higher prices in order to maintain their level of demand. The central bank may exacerbate this by increasing the money supply, by lowering interest rates for example, in an effort to combat a recession. The increased money supply props up the demand for goods and services, though demand would normally drop during a recession.^{[citation needed]}

In the Keynesian model, higher prices will prompt increases in the supply of goods and services. However, during a supply shock (i.e. scarcity, "bottleneck" in resources, etc.), supplies don't respond as they normally would to these price pressures. So, inflation jumps and output drops, producing stagflation.^{[citation needed]}

Explaining the 1970s stagflation

Following Richard Nixon Richard Milhous Nixon was the 37th President of the United States from 1969–1974 and was also the 36th Vice President of the United States (1953–1961). Nixon was the only President to resign the office and also the only person to be elected twice to both the Presidency and the Vice Presidency's imposition of wage and price controls Incomes policies in economics are wage and price controls, most commonly instituted as a response to inflation, and usually below market level on August 15, 1971, an initial wave of cost-push shocks in commodities was blamed for causing spiraling prices. Perhaps the most notorious factor cited at that time was the failure of the Peruvian anchovy fishery in 1972, a major source of livestock feed.^[16] The second major shock was the 1973 oil crisis The 1973 oil crisis started in October 1973, when the members of Organization of Arab Petroleum Exporting Countries or the OAPEC proclaimed an oil embargo "in response to the U.S. decision to re-supply the Israeli military" during the Yom Kippur war; it lasted until March 1974. . With the US actions seen as initiating the oil embargo and, when the Organization of Petroleum Exporting Countries (OPEC The Organization of the Petroleum Exporting Countries is a cartel of twelve countries made up of Algeria, Angola, Ecuador, Iran, Iraq, Kuwait, Libya, Nigeria, Qatar, Saudi Arabia, the United Arab Emirates, and Venezuela. OPEC has maintained its headquarters in Vienna since 1965, and hosts regular meetings among the oil ministers of its Member) constrained the worldwide supply of oil.^[17] Both events, combined with the overall energy shortage The 1970s Energy Crisis was a period in which the major industrial nations of the world, particularly the United States, faced substantial shortages, both perceived and real, of petroleum. The two worst crises of this period were the 1973 oil crisis, caused by the Arab Oil Embargo of OAPEC, and the 1979 energy crisis, caused by the Iranian that characterized the 1970s, resulted in actual or relative scarcity of raw materials. The price controls resulted in shortages at the point of purchase, causing, for example, queues of consumers at fueling stations and increased production costs for industry.^[18]

Theoretical responses

Under this set of theories, the solution to stagflation is to restore the supply of materials. In the case of a physical scarcity, stagflation is mitigated either by finding a replacement for the missing resources or by developing ways to increase economic productivity and energy efficiency so that more output is produced with less input. For example, in the late 1970s and early 1980s, the scarcity of oil was relieved by increases in both energy efficiency and global oil production. This factor, along with adjustments in monetary policies, helped end stagflation.^{[citation needed]}

Neoclassical views

A purely neoclassical New classical macroeconomics emerged as a school in macroeconomics during the 1970s. As opposed to Keynesian macroeconomics, it builds its analysis on an entirely neoclassical framework. Specifically, new classical macroeconomics emphasises the importance of rigorous foundations, in which the macroeconomic model is built in analogy to the actions view^[19] of the macroeconomy rejects the idea that monetary policy can have real effects. Neoclassical macroeconomists argue that real The distinction between real value and nominal value occurs in many fields. From a philosophical viewpoint, nominal value represents an accepted condition which is a goal or an approximation as opposed to the real value, which always is actually present. Often a "nominal" value is a de facto standard rather than a typical or average economic quantities, like real output The gross domestic product or gross domestic income (GDI) is a measure of a country's overall official economic output. It is the market value of all final goods and services officially made within the borders of a country in a year. It is often positively correlated with the standard of living,; though its use as a stand-in for measuring the, employment Employment is a contract between two parties, one being the employer and the other being the employee. An employee may be defined as: "A person in the service of another under any contract of hire, express or implied, oral or written, where the employer has the power or right to control and direct the employee in the material details of how, and unemployment Unemployment occurs when a person is able and willing to work but currently without work. The prevalence of unemployment is usually measured using the unemployment rate, which is defined as the percentage of those in the labor force who are unemployed. The unemployment rate is also used in economic studies and economic indices such as the United, are determined by real factors only. Nominal The distinction between real value and nominal value occurs in many fields. From a philosophical viewpoint, nominal value represents an accepted condition which is a goal or an approximation as opposed to the real value, which always is actually present. Often a "nominal" value is a de facto standard rather than a typical or average factors like changes in the money supply only affect nominal variables like inflation. The neoclassical idea that nominal factors cannot have real effects is often called 'monetary neutrality'^[20] or also the 'classical dichotomy In macroeconomics, the classical dichotomy refers to an idea attributed to classical and pre-Keynesian economics that real and nominal variables can be analyzed separately. To be precise, an economy exhibits the classical dichotomy if real variables such as output and real interest rates can be completely analyzed without considering what is'.

Since the neoclassical viewpoint says that real phenomena like unemployment are essentially unrelated to nominal phenomena like inflation, a neoclassical economist would offer two separate explanations for 'stagnation' and 'inflation'. Neoclassical explanations of stagnation (low growth and high unemployment) include inefficient government regulations or high benefits for the unemployed that give people less incentive to look for jobs. Another neoclassical explanation of stagnation is given by real business cycle Real Business Cycle Theory is a class of macroeconomic models in which business cycle fluctuations to a large extent can be accounted for by real (in contrast to nominal) shocks. (The four primary economic fluctuations are secular (trend), business cycle, seasonal, and random.) Unlike other leading theories of the business cycle, it sees theory, in which any decrease in labour productivity Labor productivity is the amount of goods and services that a labourer produces in a given amount of time. It is one of several types of productivity that economists measure. Labour productivity can be measured for a firm, a process or a country makes it efficient to work less. The main neoclassical explanation of inflation is very simple: it happens when the monetary authorities A central bank, reserve bank, or monetary authority is a banking institution granted the exclusive privilege to lend a government its currency. Like a normal commercial bank, a central bank charges interest on the loans made to borrowers, primarily the government of whichever country the bank exists for, and to other commercial banks, typically as increase the money supply too much.^[21]

In the neoclassical viewpoint, the real factors that determine output and unemployment affect the aggregate supply In economics, aggregate supply is the total supply of goods and services that firms in a national economy plan on selling during a specific time period. It is the total amount of goods and services that firms are willing to sell at a given price level in an economy curve only. The nominal factors that determine inflation affect the aggregate demand In macroeconomics, aggregate demand is the total p4 demand for final goods and services in the economy (Y) at a given time and price level. It is the amount of goods and services in the economy that will be purchased at all possible price levels. This is the demand for the gross domestic product of a country when inventory levels are static. It is curve only.^[22] When some adverse changes in real factors are shifting the aggregate supply curve left at the same time that unwise monetary policies are shifting the aggregate demand curve right, the result is stagflation.

Thus the main explanation for stagflation under a classical view of the economy is simply policy errors that affect both inflation and the labor market. Ironically, a very clear argument in favor of the classical explanation of stagflation was provided by Keynes himself. In 1919, John Maynard Keynes John Maynard Keynes, 1st Baron Keynes, CB was a British economist whose ideas have profoundly affected the theory and practice of modern macroeconomics, as well as the economic policies of governments. He identified the causes of business cycles, and advocated the use of fiscal and monetary measures to mitigate the adverse effects of economic described the inflation and economic stagnation gripping Europe in his book The Economic Consequences of the Peace The Economic Consequences of the Peace is a book published by John Maynard Keynes. Keynes attended the Versailles Conference as a delegate of the British Treasury and argued for a much more generous peace. It was a best seller throughout the world and was critical in establishing a general opinion that the Versailles Treaty was a ". Keynes wrote:

"Lenin is said to have declared that the best way to destroy the Capitalist System was to debauch the currency. By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens. By this method they not only confiscate, but they confiscate arbitrarily; and, while the process impoverishes many, it actually enriches some." [...]

"Lenin was certainly right. There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency. The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million is able to diagnose."

Keynes explicitly pointed out the relationship between governments printing money and inflation.

"The inflationism of the currency systems of Europe has proceeded to extraordinary lengths. 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."

Keynes also pointed out how government price controls discourage production.

"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. If a man is compelled to exchange the fruits of his labors for paper which, as experience soon teaches him, he cannot use to purchase what he requires at a price comparable to that which he has received for his own products, he will keep his produce for himself, dispose of it to his friends and neighbors as a favor, or relax his efforts in producing it. 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."

Keynes detailed the relationship between German government deficits and inflation.

"In Germany the total expenditure of the Empire, the Federal States, and the Communes in 1919-20 is estimated at 25 milliards of marks, of which not above 10 milliards are covered by previously existing taxation. This is without allowing anything for the payment of the indemnity. In Russia, Poland, Hungary, or Austria such a thing as a budget cannot be seriously considered to exist at all."

"Thus the menace of inflationism described above is not merely a product of the war, of which peace begins the cure. It is a continuing phenomenon of which the end is not yet in sight."

Keynesian in the short run, classical in the long run

While most economists believe that changes in money supply can have some real effects in the short run, neoclassical and neo-Keynesian economists tend to agree that there are no long-run effects from changing the money supply. Therefore, even economists who consider themselves neo-Keynesians usually believe that in the long run, money is neutral. In other words, while neoclassical and neo-Keynesian models are often seen as competing points of view, they can also be seen as two descriptions appropriate for different time horizons. Many mainstream textbooks today treat the neo-Keynesian model as a more appropriate description of the economy in the short run, when prices are 'sticky', and treat the neoclassical model as a more appropriate description of the economy in the long run, when prices have sufficient time to adjust fully.^{[citation needed]}

Therefore, while mainstream economists today might often attribute short periods of stagflation (not more than a few years) to adverse changes in supply, they would not accept this as an explanation of very prolonged stagflation. More prolonged stagflation would be explained as the effect of inappropriate government policies: excessive regulation of product markets and labor markets leading to long-run stagnation, and excessive growth of the money supply leading to long-run inflation.^{[citation needed]}

Alternative views

As differential accumulation

Political economists Political economy originally was the term for studying production, buying and selling, and their relations with law, custom, and government. Political economy originated in moral philosophy. It developed in the 18th century as the study of the economies of states—polities, hence political economy 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 capitalization rather than maximize. According to this theory, periods of mergers and acquisitions oscillate with periods of stagflation. 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. With increasing mergers and acquisitions, the power to implement stagflation increases.

Stagflation appears as a societal crisis, such as during the period of the oil crisis in the 70s and in 2006 to 2008. Inflation in stagflation, however, doesn't affect all firms equally. Dominant firms are able to increase their own prices at a faster rate than competitors. While in the aggregate no one appears to be profiting, differentially dominant firms improve their positions with higher relative profits and higher relative capitalization. Stagflation is not due to any actual supply shock, but because of the societal crisis that hints at a supply crisis. It is mostly a 20th and 21st century phenomenon that has been mainly used by the "weapondollar-petrodollar coalition" creating or using Middle East crises for the benefit of pecuniary interests.^[23]

Demand-pull stagflation theory

Demand-pull stagflation theory explores the idea that stagflation can result exclusively from monetary shocks without any concurrent supply shocks or negative shifts in economic output potential. Demand-pull theory describes a scenario where stagflation can occur following a period of monetary policy implementations that cause inflation. This theory was first proposed in 1999 by Eduardo Loyo of Harvard University's John F. Kennedy School of Government.^[24]

Supply-side theory

Supply-side economics Supply-side economics is a school of macroeconomic thought that argues that economic growth can be most effectively created by lowering barriers for people to produce goods and services, such as adjusting income tax and capital gains tax rates, and by allowing greater flexibility by reducing regulation. Consumers will then benefit from a greater emerged as a response to US stagflation in the 1970s. It largely attributed inflation to the ending of the Bretton Woods system The Bretton Woods system of monetary management established the rules for commercial and financial relations among the world's major industrial states in the mid 20th century. The Bretton Woods system was the first example of a fully negotiated monetary order intended to govern monetary relations among independent nation-states 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 Suppose a person earns $20,000 per year and is liable to 20% tax on earnings above a threshold of $5,000 per year. Then they pay *0.2 = $3000 in tax, or 15% of income. Now suppose that due to inflation, their wage goes up by 5%, but the government only increases the tax threshold by 2%. They must now pay (21000-5100)*0.2 = $3180 or 15.14%. The)^{[citation needed]}

Considerations for monetary policy during periods of stagflation

Stagflation becomes a dilemma A dilemma is a problem offering at least two solutions or possibilities, of which none are practically acceptable. One in this position has been traditionally described as "being on the horns of a dilemma", neither horn being comfortable, "between Scylla and Charybdis"; or "being between a rock and a hard place", for monetary policy Monetary policy is the process by which the monetary authority of a country controls the supply of money, often targeting a rate of interest. Monetary policy is usually used to attain a set of objectives oriented towards the growth and stability of the economy. These goals usually include stable prices and low unemployment. Monetary theory when policies usually used to increase economic growth will further increase runaway inflation while policies used to fight inflation will further the decline of an already-declining economy.^{[citation needed]}

An important monetary mechanism to increase economic growth is by lowering interest rates, which reduces the cost for consumers to buy products on credit and businesses to borrow to expand production. While this can increase economic activity, it can also result in increased inflation. The monetary mechanism to reduce inflation is by raising interest rates, which increases the cost for consumers to buy products on credit and businesses to borrow to expand production. While this can reduce inflation, it can also result in decreased economic activity.^{[citation needed]}

Stagflation becomes a problem only when the impact of the further use of the principal monetary policy tool available to assist central bank direction of the domestic economy does more marginal harm than marginal good, if used. Ultimately, the central bank can either stimulate the economy or attempt to rein it in through the mechanism of adjusting the domestic interest rate, its primary tool.^{[citation needed]}

A choice can be implemented that tends to improve growth, but does it ignite systemic inflation? A choice can be implemented that tends to fight inflation, but how badly does it impinge growth? During periods properly described as stagflation both problems co-exist. In modern times, it will be only after the central bank has used all possible tools to meet both goals, using the best quantitative measures it has at its disposal, for stagflation to occur. Major economic conditions of unusual proportion will have already created near-crises on both fronts before stagflation can set in again. Stagflation is the name of the dilemma that exists when the central bank has rendered itself powerless to fix either inflation or stagnation.^{[citation needed]}

The problem for fiscal policy is far less clear. Both revenues and expenditures tend to rise with inflation, and with balanced budget politics, they fall as growth slows. Unless there is a differential impact on either revenues or spending due to stagflation, the impact of stagflation on the budget balance is not altogether clear. One school of thought is that the best policy mix is one in which government stimulates growth through increased spending or reduced taxes, while the central bank fights inflation through higher interest rates. Whatever theory is employed, coordinating fiscal and monetary policy is not an easy task.^{[citation needed]}

Responses

Stagflation undermined faith in a Keynesian consensus, and placed renewed emphasis on microeconomic Microeconomics is a branch of economics that studies how the individual parts of the economy, the household and the firms, make decisions to allocate limited resources, typically in markets where goods or services are being bought and sold. Microeconomics examines how these decisions and behaviours affect the supply and demand for goods and behavior, particularly neoclassical economics Neoclassical economics is a term variously used for approaches to economics focusing on the determination of prices, outputs, and income distributions in markets through supply and demand, often as mediated through a hypothesized maximization of income-constrained utility by individuals and of cost-constrained profits of firms employing available with its attempt to root macroeconomics in microeconomic formalisms. The rise of conservative theories of economics, including monetarism Monetarism is the view within monetary economics that variation in the money supply has major influences on national output in the short run and the price level over longer periods and that objectives of monetary policy are best met by targeting the growth rate of the money supply.pp. 492-97, can be traced to the perceived failure of Keynesian policies to combat stagflation or explain it to the satisfaction of economists and policy-makers.^{[citation needed]}

Federal Reserve chairman Paul Volcker Paul Adolph Volcker is an American economist. He was the Chairman of the Federal Reserve under United States Presidents Jimmy Carter and Ronald Reagan (from August 1979 to August 1987). Since February 2009, he has been Chairman of the Economic Recovery Advisory Board under President Barack Obama very sharply increased interest rates from 1979-1983 in what was called a "disinflationary scenario." After U.S. prime interest rates had soared into the double-digits, inflation did come down; these interest rates were the highest long-term prime interest rates that had ever existed in modern capital markets.^[25] Volcker is often credited with having stopped at least the inflationary side of stagflation, although the American economy also dipped into recession. Starting in approximately 1983, growth began a recovery. Both fiscal stimulus and money supply growth were policy at this time. A five-to-six-year jump in unemployment during the Volcker disinflation suggests Volcker may have trusted unemployment to self-correct and return to its natural rate within a reasonable period.^{[citation needed]}

See also

• Agflation
• Biflation
• Economic stagnation
• Inflation
• Hyperinflation

Notes

1. ^ Blanchard, Olivier (2000). Macroeconomics (2nd ed.). Prentice Hall. pp. G8. ISBN 013013306X.
2. ^ Online Etymology Dictionary. Douglas Harper, Historian. http://dictionary.reference.com/browse/stagflation (accessed: May 05, 2007).
3. ^ British House of Commons' Official Report (also known as Hansard), 17 November 1965, page 1,165.
4. ^ Edward Nelson and Kalin Nikolov (2002), Bank of England Working Paper #155 (Introduction, page 9). (Note: Nelson and Nikolov also point out that the term 'stagflation' has sometimes been erroneously attributed to Paul Samuelson.)
5. ^ J. Bradford DeLong (3-10-1998). "Supply Shocks: The Dilemma of Stagflation". University of California at Berkeley. http://econ161.berkeley.edu/multimedia/ASAD1.html. Retrieved 2008-01-24.
6. ^ Burda, Michael; Wyplosz, Charles (1997). Macroeconomics: A European Text, 2nd ed.. Oxford University Press. pp. 338–339
7. ^ Hall, Robert; John Taylor (1986). Macroeconomics: Theory, Performance, and Policy. Norton. ISBN 039395398X.
8. ^ Blanchard (2000), op. cit., Ch. 9, pp. 172-173, and Ch. 23, pp. 447-450.
9. ^ Blanchard (2000), op. cit., Ch. 22-2, pp. 434-436.
10. ^ Barsky, Robert; Kilian, Lutz (2000). A Monetary Explanation of the Great Stagflation of the 1970s. University of Michigan [1]
11. ^ Blanchard (2000), op. cit., Chap. 28, p. 541.
12. ^ Abel, Andrew; Ben Bernanke and Andrew Abel (1995). "Chap. 11". Macroeconomics (2nd ed.). Addison-Wesley. ISBN 0201543923.
13. ^ Bronfenbrenner, Martin (1976). "Elements of Stagflation Theory". Zeitschrift für Nationalökonomie 36: 1–8. doi:10.1007/BF01283912.
14. ^ Smith, V.Kerry (1979). Scarcity and Growth Reconsidered. Johns Hopkins Press for Resources for the Future
15. ^ Krautkraemer, Jeffrey (March, 2002). ECONOMICS OF SCARCITY: STATE OF THE DEBATE. Washington State University
16. ^ Humphrey, Thomas M. (1973). "Historical Origins of the Cost-Push Fallacy" (PDF). Economic Quarterly, Federal Reserve Bank of Richmond, Summer 1998, v.98 No.3. https://www.richmondfed.org/publications/economic_research/economic_quarterly/pdfs/summer1998/humphrey.pdf.
17. ^ "Over a Barrel". Time Magazine. 1983-10-03. http://www.time.com/time/magazine/article/0,9171,926216,00.html. Retrieved 2010-05-24.
18. ^ ("Panic at the Pump". Time Magazine. 1974-01-14. http://www.time.com/time/magazine/article/0,9171,908367-1,00.html. Retrieved 2010-05-24.
19. ^ Abel & Bernanke (1995), op. cit., Ch. 11.
20. ^ Abel & Bernanke (1995), op. cit., Ch. 11, pp. 378-9.
21. ^ Barro, Robert; Vittorio Grilli (1994). European Macroeconomics. Macmillan. ISBN 0333577647.
22. ^ Abel & Bernanke (1995), Ch. 11, pp. 376-7.
23. ^ Nitzan, Jonathan (June 2001). "Regimes of differential accumulation: mergers, stagflation and the logic of globalization". Review of International Political Economy 8 (2): 226–274. doi:10.1080/09692290010033385. http://bnarchives.yorku.ca/3/.
24. ^ Loyo, Eduardo (June 1999). Demand-Pull Stagflation (Draft Working Paper). National Bureau of Economic Research New Working Papers [2]
25. ^ (Homer, Sylla & Sylla 1996, p. 1)

References

• Homer, Sidney; Sylla, Richard Eugene; Sylla, Richard (1996). A History of Interest Rates. Rutgers University Press. ISBN 978-0-81352288-3. http://books.google.com/?id=w3hmC17-em4C. Retrieved 2008-10-27

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