A Whiff of Stagflation

Inflation was rising and job growth stalled even before the Iran War

Jerome Powell doesn’t want you to use the S-word. In the press conference following the Federal Reserve’s decision to leave interest rates unchanged, he argued that current economic difficulties aren’t enough to warrant that description:

What we have is some tension between the ​goals and ​we’re ⁠trying to manage our way through it. It’s a very difficult situation, ​but ⁠it’s nothing like what they faced in the 1970s and ⁠I ​reserve stagflation for ​that — the word — for that period. Maybe ​that’s just me.

Fair enough, although any statement that things aren’t as bad as they were in the 1970s should come with the caveat “so far.” As I write this the price of Brent crude is above $116 a barrel, up from about $70 before the bombing began. If the blockade of the Strait of Hormuz goes on for months rather than weeks this will be a shock to world oil supplies substantially worse than the shocks of 1973 or 1979. And while I’m not a strategic expert, I don’t see how that strait reopens any time soon. Neither do prediction markets:

Source: Polymarket

Nor is oil the only concern. Even before Operation Epic FUBAR, inflation was ticking up while job growth was stalling. Powell says that the economy’s troubles weren’t severe enough to be called stagflation. But things were looking a bit, well, stagflationish.

One way of looking at the data that I find helpful is to compare what has actually happened since Donald Trump took office with informed expectations in late 2024, which I assess by looking at median projections in the quarterly Survey of Professional Forecasters carried out by the Philadelphia Fed.

Start with inflation, defined as the rise in the personal consumption expenditure price index, the Fed’s preferred measure, from the fourth quarter of each year to the fourth quarter of the next year. This measure, which rose sharply in 2021 and 2022, fell most of the way back to the Fed’s target of 2 percent by late 2024, and the general expectation was that it would continue to fall:

Instead, inflation has risen — not a lot so far, but it was moving in the wrong direction even before the war with Iran. The latest indicator was the Producer Price Index — basically wholesale prices — released Wednesday morning. This index can give early warning about rising consumer prices. And one of the people I trust to read these tea leaves called it “pretty grim.” Not 1970s grim, but not what you want to see.

There’s an uncomfortable parallel here with 1973, the year stagflation is generally considered to have started. I’m not sure how many people are aware that one reason the 1973 oil shock hit so hard was that inflation was already rising fast even before the Yom Kippur War led to the Arab oil embargo, which triggered the first oil crisis:

The numbers were much worse then than they are now, but there’s still a family resemblance to recent events.

That’s the flation. What about the stag?

Before Trump returned, most observers expected robust job growth to continue. Instead it has stalled:

Source: Bureau of Labor Statistics

Some of that was the result of mass DOGE-driven layoffs in the federal government, but private-sector job creation has also slowed drastically. And Powell asserted that once the data are revised, he expects to see essentially zero private-sector job growth over the past six months.

The state of the U.S. economy, then, was troubling, with at least hints of stagflation, even before this war led to the Hormuz blockade.

But why has U.S. economic performance been disappointing?

The public often exaggerates the role of political leadership in determining economic performance. In reality, presidents and their policies normally have very little effect on macroeconomic variables like inflation and employment.

But this time is different. The disappointing aspects of recent U.S. performance have been all about Trump.

In his press conference Powell didn’t beat around the bush. Noting that inflation is significantly overshooting the Fed’s target, he declared that

Some big chunk of that, between a half and three-quarters is actually tariffs.

What about the stalling of employment growth? Research at the San Francisco Fed confirms what many economists have been arguing: Job growth has slowed largely because of the crackdown on immigration, which has reduced labor supply. So employment stagnation is also the result of Trump administration policies.

Now, you might be tempted to argue that while stopping immigration reduces overall job growth, it surely must increase job opportunities for native-born workers. But a look at unemployment rates suggests that the job market for the native-born has gotten (slightly) worse, not better:

The most we can say is that thanks to the loss of immigrant workers the overall unemployment rate hasn’t risen as much as one might have expected given the collapse in overall job growth. But the loss of foreign-born workers is probably contributing to higher inflation, over and above the effects of tariffs and now oil prices. And it will have major adverse effects on America’s fiscal outlook — but that’s a subject for another day.

So Powell is right: If you restrict the term stagflation to situations that quantitatively resemble the 1970s, we aren’t there yet. But there’s definitely a whiff of stagflation in the air — a whiff that is entirely caused by Trump administration policies.

And if the situation deteriorates, as seems all too possible given the mess in the Persian Gulf, can we trust Trump’s officials to respond intelligently and effectively?

See, I made a joke.

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