Stagflation; The Economic Problem That Breaks All The Rules

Your bank balance and spending have an inverse relationship. The same goes for inflation and unemployment; normally when unemployment rises, inflation falls, and when inflation rises, unemployment falls. However, this tradeoff is difficult to manage with monetary policy for any central bank. The goal is low inflation and full employment. (Picardo, 2022) This relationship is more complicated than it appears at first glance. It has broken down before; and when it does, nobody knows what to do. That breakdown has a name: stagflation.

By Liam Scotchmer
References below.

What Is Stagflation?

The term stagflation is a portmanteau of “stagnation” and “inflation.” The word shouldn’t exist because the economy shouldn’t allow it. (Enders et al., 2022)

Stagflation is a situation when prices stay stubbornly high (inflation) even though an economy has run out of steam (stagnation). In economic terms, it is the simultaneous appearance of slow growth, high unemployment, and rising prices in an economy. (Why Are People Talking about Stagflation Again, and What Does It Mean Anyway?, 2026)

Traditional economic models like the widely accepted Phillips curve suggested an inverse relationship between unemployment and inflation; i.e. low unemployment with high inflation or high unemployment with low inflation, but not both simultaneously. (Estevez, 2024) These long held economic theories were shattered when the 1970s oil crisis emerged. British politician Iain Macleod first used the term “stagflation” in a 1965 speech to the House of Commons to describe the U.K. economy. The term later gained far wider prominence during the 1970s oil crisis when OPEC’s embargo on the United States (for various reasons) sparked a spectacular increase in energy prices in major economies globally. Crude oil prices quadrupled in about a year. (Picardo, 2022) The supply shock drove up production costs across economies whilst simultaneously reducing economic output; output fell because companies were either reducing output or laying off workers, with many doing both. This resulted in a combination of rising unemployment and accelerating inflation that lasted throughout the decade.

With inflation and unemployment rising simultaneously, not only were major economies struck worldwide changing the lives of many, it also affected conventional economic wisdom, “forcing a generation-long rethinking of macroeconomic theory and policy.” (Estevez, 2024)

The 1970s

Stagflation is particularly difficult because traditional tools that deal with one problem worsen the others.

Increasing interest rates to fight inflation slows growth and therefore increases unemployment, while stimulus measures to boost growth may increase inflation. (Estevez, 2024) Per Investopedia, “this policy dilemma explains why stagflationary periods like the 1970s tend to be prolonged and difficult to resolve.”

What did the U.S. Federal Reserve (FED) do in the late 1970s? Paul Volcker took the reins of the FED in 1979, and “he showed that the central bank was willing to use rates as a blunt instrument,” says Kyla Scanlon in The New York Times. (Scanlon, 2026) He raised interest rates above 20 percent to crush inflation, peaking at 21% in 1981. (Estevez, 2024) He intentionally prompted a recession. It was savage but effective, with unemployment rising to a staggering 10.8% in 1982, and inflation rising to 14.8% in 1980 and then inflation dropped to 3.8% in 1983. (The Curious Economist, 2024) With unemployment reaching 10.8% and inflation reaching 3.8%, this shows the Fed’s cure worked on inflation but unemployment nearly doubled as the cost. This is a powerful trap of stagflation.

His efforts had a shock therapy approach to monetary policy, called the “Volcker shock.” The Volcker shock proved that stagflation can be beaten, but the cure can be almost as painful as the disease.

Why It's Impossible To Fix

Australia, like many economies, faces echoes of this same problem. Today, the world is experiencing an energy shock whilst a number of developed economies have seen inflation rising, “creating conditions that could lead to stagflation in the future,” per Commonwealth Bank Newsroom. (CBA Newsroom, 2026) This is why stagflation is back in the news.

Due to Brent crude oil’s broad use in international trade, it is the principal benchmark price for oil traded globally. (Trading Economics, 2025) Brent is a key pricing reference for crude oil produced in Europe, Africa, and the Middle East. Following recent geopolitical tensions in the Middle East, Brent crude price has risen more than 50% (as of writing). This has inflated the prices of petrol, diesel and jet fuel which will have downstream effects: transportation and delivery costs will rise, and this will put pressure on the price of goods and services all across the economy. (CBA Newsroom, 2026) At the same time, inflation is 3.7% as of writing; this is above the Reserve Bank of Australia’s target band of 2% to 3%. This has brought two rate increases (already) in 2026 (as of writing). (Reserve Bank of Australia, 2026)

Australia Today

Some economic problems don’t have clean solutions. Stagflation is one of them. The 1970s proved it, and the lesson hasn’t changed.

The Lesson?

References

CBA Newsroom. (2026). Why are people talking about stagflation again, and what does it mean anyway? Commbank.com.au. https://www.commbank.com.au/articles/newsroom/2026/04/explainer-what-is-stagflation-and-why-are-we-talking-about-it-again.html

Enders, A., Giesen, S., & Quint, D. (2022). Stagflation in the 1970s: lessons for the current situation. SUERF. https://www.suerf.org/publications/suerf-policy-notes-and-briefs/stagflation-in-the-1970s-lessons-for-the-current-situation/

Estevez, E. (2024, June 15). Stagflation. Investopedia. https://www.investopedia.com/terms/s/stagflation.asp

Office of the Historian. (n.d.). Oil Embargo, 1973–1974. State.gov; Office of the Historian. https://history.state.gov/milestones/1969-1976/oil-embargo

Picardo, E. (2022, July 14). How Inflation and Unemployment are Related. Investopedia. https://www.investopedia.com/articles/markets/081515/how-inflation-and-unemployment-are-related.asp

Reserve Bank of Australia. (2026). Cash Rate Target Overview. Reserve Bank of Australia. https://www.rba.gov.au/cash-rate-target-overview.html

Scanlon, K. (2026). Why the Stock Market Makes No Sense Right Now. The New York Times. https://www.nytimes.com/2026/04/18/opinion/wall-street-markets-iran-ai.html

The Curious Economist. (2024). The Volcker Shock in the USA. The Curious Economist. https://thecuriouseconomist.com/the-volcker-shock-in-the-usa/