Stagflation Could Be Ahead for US Economy

Stagflation occurs when increasing prices and slowing economic growth occur at the same time. Inflation is currently sitting near a 40-year high, but economic growth is still fairly healthy and the unemployment rate is low.

However, the Federal Reserve is playing a risky game of raising interest rates, which could send the U.S. economy into a 1970's style stagflation period if not careful. "This is an environment filled with risk, both with respect to inflation and potential slowdowns," U.S. Treasury Secretary Janet Yellen said during a press conference earlier this month. "The economic outlook globally is challenging and uncertain, and higher food and energy prices are having stagflationary effects, namely depressing output and spending and raising inflation all around the world."

Bridgewater Associates co-chief investment officer, Bob Prince, also fears we are on the cusp of stagflation, telling Bloomberg TV that markets have not fully absorbed what is happening in the economy right now. "The markets are under-discounting the inflation picture," he said during the World Economic Forum in Davos, Switzerland. "The sustainability, the self-reinforcing of the inflation is not discounted. The degree of tightening over time is not discounted."

The Bank for International Settlements (BIS) worries that the stagflation lurking today could be even more disruptive than that of the 70s because inflation is more widespread. "By some measures, recent events look even more disruptive than those of the 1970s," a BIS report says. "For example, recent price increases have affected a broader set of commodities. Commodity price rises in the 1970s were concentrated in oil markets, whereas in recent months energy, agricultural, commodity and metals prices have all experienced strong gains."