Stagflation: the economic disaster that governments cannot solve

Imagine this: inflation keeps rising, but the economy is not growing, and is actually stagnating. Unemployment is increasing, prices are skyrocketing, and wages are not keeping up. This is stagflation - one of the most controversial economic phenomena that leaves economists in an impossible situation.

Why is this such a pain for the economy?

The usual rule is simple: strong economy = high inflation, weak economy = low inflation. But stagflation brings together the worst of both worlds - high unemployment plus rising prices. For governments, it’s like being caught between two bosses who want opposite things.

Inflation is fought by reducing the money supply and raising interest rates. This makes loans more expensive, reduces consumption, and halts price growth. Wonderful - but it further freezes the economy.

The recession, on the other hand, struggles with the opposite mechanism - pouring more money into the system, lowering interest rates, facilitating lending. This stimulates growth, but also encourages… inflation.

Therefore, a choice between two treatments that interfere with each other. Nice development!

How does this monster come to life?

Stagflation does not just appear out of nowhere. It is the result of a series of missteps and clashes.

Conflicting Policies - The central bank lowers interest rates and prints money, while the government simultaneously raises taxes and cuts spending. The fiscal policy says “stop spending,” the monetary policy says “spend more.” The result is chaos - growth is dead, but inflation is thriving.

The Shock of Supplies - Imagine that oil suddenly becomes 10 times more expensive. Production becomes more costly, prices rise, consumers have less disposable income for normal things. Production halts, prices continue to rise. Classic stagflation.

The abandonment of the gold standard - When currencies were tied to gold, the chaos of money printing was a fenced boundary. After World War II, the world transitioned to fiat currencies, which gave freedom to central banks - but also allowed for the uncontrolled expansion of the money supply.

How does everyone cope with stagflation?

Economists from different schools have different recipes.

Monetarists say: first stop inflation, whatever it costs. Reduce the money supply, raise interest rates, give it time to calm down before thinking about growth. The downside? Short-term pain, but at least inflation is falling.

Supply-side economists argue: increase production. Subsidize production, reduce energy costs, make the economy more efficient. More goods = lower prices and more jobs. Logically, but difficult to implement.

Free market devotees laugh: let the market work. Consumers will not afford expensive things, demand will fall, prices will drop. It sounds good in theory, but in practice, people may wait for years in ruin before the system balances out.

The Oil Crisis of 1973: When Stagflation Really Hit

In 1973, the Organization of the Arab Petroleum Exporting Countries announced an oil embargo. The goal was to punish the West for its support of Israel in the Yom Kippur War. The result was chaos.

The price of oil has skyrocketed dramatically. Supply chains have collapsed. Consumer prices have soared. Inflation has reached wild levels.

The central banks in the US and the UK decided to combat economic weakness by lowering interest rates. Cheap loans would encourage spending and growth. But the problem was that energy made up a huge share of consumption - the rising oil prices simply could not be addressed with low interest rates. The result: high inflation AND economic stagnation. Western countries like the US and the UK felt the full force of stagflation.

What does all this mean for cryptocurrencies?

Weak growth = less money for investments - When the economy is not growing, people have less disposable income. They are unlikely to throw money into risky assets like cryptocurrencies. Bitcoin and other coins typically decline during such periods, as investors need money for survival.

Central banks first control inflation - When governments tackle stagflation, inflation is usually the first target. This means raising interest rates and reducing the money supply. High interest rates make low-risk assets (bonds, savings) more attractive and reduce the appetite for cryptocurrencies. Demand for Bitcoin falls.

Then comes the stimulation - When inflation falls, governments usually move towards quantitative easing - printing money, lowering interest rates. During this period, cryptocurrencies typically rebound as liquidity is high and people seek not to keep their money in the bank.

Bitcoin as a hedge against inflation - Many say that Bitcoin is a good protection against rising inflation because its supply is limited. But the important note is that this works well in the long term, not in short periods. During stagflation, when recession and inflation occur simultaneously, Bitcoin usually falls along with other risky assets, even if inflation is high.

The conclusion?

Stagflation is the economic nightmarish moral - I won't like how both contradictory diseases should be treated simultaneously. Monetary and fiscal policies hinder each other, the tools used to treat one ailment exacerbate the other. History shows that when stagflation really hits ( like in 1973), the economy remains in pain for years to come. For cryptocurrency investors, periods of stagflation are usually unpleasant - neither growth nor easy money. The macroeconomic environment truly matters.