Stagflation is a macroeconomic idea that Ian Macleod first mentioned in 1965. Ian Macleod was a British politician and the Exchequer's Chancellor.
Stagflation is a word made from stagnation and inflation, talking about an economy that is experiencing less or negative economic growth and an increasing unemployment plus rising user prices.
It can be tricky for a central bank or government to deal with stagflation, especially if the economic controls used to individually manage each condition can make the other worse.
A nation's gross domestic product (GDP) is used to measure Economic growth. A GDP is directly related to employment rates. When inflation is rising and the GDP is not performing accordingly, severe stagnation can cause a huge financial crisis.
Why Does Stagflation Occur?
Stagflation happens when money's purchasing power drops at the same time the economy's growth reduces and the supply of services and goods drops.
The exact causes of stagflation changes per different economic views and historical context. Below are some of the theories and ideas that explain stagflation from different points of view.
1. Disagreeing Monetary and Fiscal Policy
Any combination of policies that lower user expenditure and at the same time increasing money supply can eventually cause stagflation. Similarly, a "clashing combination" of fiscal policy and monetary policy can cause inflation and limited economic growth.
2. Fiat Currency Development
Initially, several economies pegged their currencies on a certain amount of gold and was called the gold standard. The mechanism was dropped after World War two and got replaced with fiat currency.
This removed the limits of money supply. Although this boosted central banks in managing the economy, it also risked damaging the levels of inflation, leading to increased prices.
3. High Supply Costs
A high increase in the production cost of services and goods leads also to stagflation. This is factual for energy and is called a supply shock.
If the cost of producing goods and services is more, and users have less income because of increased costs, chances of stagflation to happen are high.
How Stagflation May Affect the Crypto Market
Negative or Less Growth
A stagnant or reducing economy leads to income levels that are not growing or are lesser than usual, hence users have less funds to invest.
As a result, fewer people will purchase crypto and most retail investors will sale more to get funds for daily uses.
Also, stagflation causes huge investors to avoid investing in risk-filled assets such as cryptocurrencies and stock.
How the Government Handles Stagnation
To deal with inflation, the government reduces money supply by increasing interest rates. This leads to decreased liquidity because people store the funds in banks and asking for loans becomes expensive.
Therefore, Crypto may witness a decrease in demand and costs during that period of lower money supply and increasing interest rates.
Conclusion
Stagflation is a unique problem for policymakers and economists because it is rare for negative economic growth and inflation to happen at the same time.
The tools to deal with stagnation cause inflation most of the time,while those used to manage inflation can cause limited or negative economic growth.
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