In recent years, the words “inflation” and “recession” have returned to the centre of economic debate. Yet there is a combination that is feared even more: stagflation, a situation in which the economy slows whilst prices continue to rise. It is a paradox that puts governments, central banks, businesses and savers in an extremely difficult position.
What stagflation is
Stagflation combines economic stagnation with elevated inflation. Ordinarily, when growth slows, prices tend to cool as well. In this case, however, the opposite occurs: GDP remains weak, unemployment may rise and, in the meantime, the cost of living increases. The term was coined in the United Kingdom in the 1960s and became widely known in the following decade, when the oil crises triggered a sharp rise in energy prices and a halt to industrial production.
The causes of an economic trap
At the root of a stagflationary episode one typically finds supply shocks: a sudden increase in energy costs or disruptions to supply chains push prices up whilst simultaneously slowing production. Excessively expansionary monetary and fiscal policies may also contribute: ample liquidity and elevated public spending stimulate demand, but if productive capacity is limited, inflation takes hold whilst growth remains anaemic.
The risks for households, businesses and markets
This scenario is insidious because it strikes on multiple fronts. Inflation erodes purchasing power: wages and savings lose real value, and those living on fixed incomes struggle to maintain the same standard of living.
For businesses, rising costs and weak demand compress margins and reduce the propensity to invest. Central banks, meanwhile, face a dilemma: raising interest rates to tame inflation risks exacerbating the stagnation; keeping them low may allow high-price expectations to become entrenched.
Markets, finally, become more volatile. Equities and traditional bonds may suffer simultaneously, putting even the most prudent portfolios to the test.
Today’s global tensions: adding fuel to the fire
In the current environment, trade wars and military conflicts amplify the risks of inflation and supply shocks. Among the most relevant factors:
- Energy and raw materials
- Increases or disruptions in the supply of oil and gas, resulting from sanctions or attacks on infrastructure, push up production and transportation costs.
- Blockages or restrictions on the export of industrial metals and rare earths, which are essential for electronics and batteries, can drive prices higher throughout the entire supply chain.
- Global supply chains
- Tariffs and trade barriers create bottlenecks, increasing the costs of intermediate and final goods.
- Potential closures of strategic routes — such as those through the Red Sea or the Strait of Taiwan — extend delivery times and raise shipping costs.
- Food and fertilisers
- Conflicts in key areas for wheat and cereals, or restrictions on fertilisers such as urea, can cause food prices to rise rapidly.
- Extreme weather events, such as droughts or floods, compound tensions and costs.
- The labour market
- Wars and forced migration reduce the availability of labour in certain sectors, pushing wages up.
- Demands for pay increases to compensate for inflation may trigger a wage-price spiral.
- Economic and currency policies
- Financial sanctions and capital controls can raise financing costs and weaken certain currencies, importing inflation.
- Subsidies and excessive public spending, if poorly calibrated, may sustain demand and fuel further price rises.
Are we genuinely at risk?
The ingredients are all present: geopolitical tensions, energy price increases, supply chains under stress, wage pressures. These are all elements reminiscent of the preconditions for the stagflation of the 1970s. Nevertheless, the situation has not yet deteriorated irreversibly: decisions by central banks, the ability to diversify energy sources and investments in productivity can still make the difference.
In conclusion, stagflation is not merely a term from an economics textbook: it is a concrete possibility when geopolitical tensions and trade wars reduce supply and fuel inflation. Understanding these mechanisms and preparing appropriate investment strategies is today more essential than ever to protect wealth and face the challenges of global markets with clarity of thought.