Stagflation is associated with high levels of unemployment. Businesses attempt to maximize profits to protect shareholders from stagnating economic growth and inflation. Lower investment in the economy means lower production. When the bottlenecks in the supply chain have cleared, the economy recovers.
Stagflation and high unemployment are problems that feed off each other to survive. Economies are experiencing rising costs, and restricted demand often cannot churn out enough jobs for the eligible population. No new jobs are being created, and existing jobs are being slashed.
What is Stagflation?
Stagflation is a state of severe economic downturn that the U.S. last faced in the U.S. in the early 1970s – mid-1980s. High inflation and economic stagnation will likely occur when an economy faces broad-ranging supply shocks.
Most of the population younger than 50 years old most likely has not heard of Stagflation. This economic state is rare and often destructive to consumer trust. High inflation can be expected in some economies. The problem is, however, seldom accompanied by stagnation. The two issues happening simultaneously are known as a state of Stagflation. Consumers are targeted the most during this period as their wages are squeezed for profit by industry.
Economic growth during this period will decline, and so will the actual value of their wages. Once unemployment rates rise, those with jobs find that their salary purchasing power continues to fall behind national inflation levels. When less disposable income is available in the economy, the demand for goods and services will decrease, which can drive prices down. However, if there is inflation, the costs will continue to soar. These dual characteristics continue to compound the misery of the consumer. Consumers must invest their savings in surviving as things get more challenging in the economy.
The economic downturn associated with Stagflation is often challenging to recover from. Slow economic growth or a recession will cause the Federal Reserve and Central Bank to reduce the money supply through monetary and fiscal policy. These efforts to jumpstart their economies by encouraging spending can have the opposite effect. Poorly timed measures will often exacerbate inflation, ultimately making matters worse. The primary way to handle Stagflation is to use a farsighted approach.
When companies are producing less, two things occur:
- When demand falls, companies are unlikely to expand their operations. It can be financially risky to open new positions in a stagnating market. This feature means no new jobs are available to help reduce high-unemployment levels.
- The high inflation in the economy means consumers have less disposable income. This problem translates to less economic spending, which means companies have to downsize.
Consumers who work for wages often spend most of their salary consuming. The consumer cannot keep up with a declining consumption to income-ratio. Stagflation can have devastating effects on the economy, and one of them is high unemployment. Stagflation typically doesn’t usually present, while high unemployment can be a recurring problem. Combining these two factors only protects the employer and not the employee.
Example Effects of Stagflation on the larger job market.
- Factors such as rising prices, a weakening currency, and declining economic growth can make it hard for potential workers to determine the value of their labor. With the rising cost of living, it is hard to estimate the best contract for yourself. Deciding upon a fair salary is a challenge when it is not protected against inflation.
- The job market stagnates, with few new positions being opened monthly. Job seekers feel apathy towards the market and have lost faith in economic tools to rescue the economy.
- Brain drain can occur. When economic conditions are unfavorable for employees, they may seek to emigrate to a better-performing economy. It is often the high-performing employees who are highly skilled that can quickly move on. During Stagflation, businesses often struggle with labor disruption. This will reduce the talent pool while those willing to work will ask for higher wages in the face of inflationary costs.
What Causes Stagflation?
Stagflation is often the result of supply shocks to critical pillars of the economy. When an economy is built on a few sectors, it is called capital misallocation. A diverse economy with alternative supply methods can often survive any temporary bottlenecks without falling into stagnation. When major supply shocks happen to sectors such as energy, food supply, or oil, the prices of goods can skyrocket. This problem can quickly spread from one industry to the entire economy and is soon followed by the rapid expansion of a country’s money supply. The businesses in the economy will often panic and seek to store value through tight business regulations and high taxes.
How does Stagflation affect businesses?
It is often the smaller people-centered businesses that feel the pinch of Stagflation. A high production cost forces smaller companies to raise their profits to remain in business. Larger companies with a solid customer base and years of stored capital reserves can afford to keep their prices relatively the same. This leverage over smaller companies can cause them to be priced out of the market. The problem is compounded as wages are not increasing, meaning their customers can’t afford to pay higher prices.
Smaller companies cannot attract the most skillful labor with less money flowing through the business. Labor disruptions occur mainly during Stagflation, as employees seek higher wages. With declining profits, it is not possible often for employers to afford a rise in wages.
During Stagflation, the Federal Reserve will raise interest rates, making it difficult to access loans for small businesses. Therefore companies experience lower demand for their goods and services. Without this safety net, a small business can easily be outrun by the soaring cost of doing business.