It seems as though the United States economy is barrelling towards what’s known as stagflation, which many economic experts believe is much worse than an actual recession.
Investors were hit with disappointing GDP growth after the first-quarter GDP report was released recently, and consumer prices are still rising. It’s this type of situation that can create stagflation, which ultimately can’t be affected by cuts in the interest rate.
If inflation continues to spiral out of control, the next few years could look a lot like the country did in the 1970s.
David Donabedian, who serves as CIBC Private Wealth US’ chief investment officer, commented on the GDP report recently when he said:
“This was a worst of both worlds report — slower than expected growth, higher than expected inflation.”
The Bureau of Economic Analysis reported that growth in the first quarter fell well short of what estimates were. It increased at an annualized rate of only 1.6%, the report said.
Forecasts had growth sitting at about 2.5%. Making matters worse, growth fell well short of the 3.4% increase that was experienced during the fourth quarter of 2023.
Typically speaking, a cooldown such as this would increase calls for the Federal Reserve Bank to start ease off interest rate hikes. Doing so, though, would significantly limit any action the central bank could take, as it has said many times that inflation has to begin to decrease before they can cut the interest rates at all.
As a result of all this news, stocks dropped sharply earlier this week, as many investors had already priced in expected cuts to the interest rate.
Not long ago, the Federal Reserve Bank was predicting three potential rate decreases for 2024. Then, just this month, the central bank’s chair, Jerome Powell, said that only one cut would likely occur this year, and it probably wouldn’t happen until the end of the year.
Now, though, it seems that stagflation could be on the horizon for the U.S. economy. That’s typically characterized by inflation that remains elevated for a prolonged time with economic listlessness as well.
In stagflations, the Fed generally can’t do much at all to spur the economy, or cool it off.
The last time that America dealt with stagflation was during the 1970s. In the early part of that decade, energy prices skyrocketed as OPEC restricted its crude oil exports to the U.S.
The government also overspent back then and the dollar was de-coupling from gold, which caused inflation to surge into double digits. Naturally, the U.S. economy tumbled quite a lot.
Because that period of time ended up being so tumultuous, many long-standing macroeconomic theories were undone, requiring the central bank to take a much greater direct role in the economy.
Interest rates were raised to an unheard-of 20% to reign the economy in. While prices eventually lowered as a result, the country went into a deep recession.
