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August 17, 2022

Stagflation fears: The Ukraine conflict may push us back into the 70’s

Macro commentary by eToro analyst for Romania, Bogdan Maioreanu


The Ukrainian conflict draws public attention and creates worries about shortages prone to driving inflation up. The Fed started the increase in interest rate with only 0.25 but signaled that there are more to follow, in Romania Robor reached 4.5%, credit is becoming more expensive. Stagflation, the return of the 70’s, are words that start to emerge while investors are looking at their portfolio results turning red. Similarities are becoming more evident with every day the conflict is not ending, with one notable exception: unemployment.

The 70’s stagflation crisis ended only when money began scarce, increasing unemployment, curbing demand and as result steeply decreasing prices. Increasing only the interest rates did not solve the problem. We are far from that now. ECB signaled that it is starting to take measures. “The most important decision at our monetary policy meeting was to de-link potential interest rate hikes from asset purchases”, says Vice-President Luis de Guindos. Currently the European Union is at the lowest unemployment rate in the last 22 years. In Romania the unemployment rate was 5.9% in the last quarter of 2021 showing a 0.6% increase compared with the previous trimestre. The employment rate is 62.1% lower than the 66% before the pandemic, showing that there are fewer workers to fill the available positions.  In the United States there is a talent crisis that is leading to wage increases. De Guindos says that in Europe “haven’t yet seen any signs of wage increases being too high and pushing up prices. The same goes for inflation expectations. Inflation, however, is likely to remain higher for longer than was expected before the war.”

The 70’s were the years of the Great Inflation and stagnant economic growth. In 1964, in the United States inflation was a bit more than 1 percent per year. Inflation began increasing in the mid-1960s and reached more than 14 percent in 1980. One very powerful driver for increase was the repeated energy crises that raised oil costs and slashed U.S. growth. The first crisis was created by the Arab oil embargo from 1973 and lasted about five months. During this period, crude oil prices quadrupled to a plateau that held until the Iranian revolution in 1979 that triggered the second crisis, tripling the cost of oil. Grains also had a steep price increase in the 1970s. A rapid increase in global demand for grains and oilseeds triggered the 1971-74 runup in prices. A research paper of The World Bank is showing that restrictive trade policies contributed very substantially to the price surges in the 70’s. Contributing factors were exogenous shocks to supply or demand, below-trend stock levels, speculative behavior, and restrictive trade policy responses.

There are evident similarities with the current situation. On concerns related to supply issues, the oil prices are fluctuating around 100 dollars with spikes close to 140 dollars. Grains prices are skyrocketing. Because Ukraine and Russia account for 29% of the global wheat production, some countries are starting to ban exports of some cereals that can offer subsistence to their citizens. Egypt, who is one of the largest importers of Ukrainian wheat, banned exports of wheat, flour, lentils and pasta and fava beans. This move adds to the wave of food protectionism worldwide. Moldova, Serbia and Hungary have all banned exports of some grains. Indonesia, the world’s biggest edible-oils exporter, is tightening controls over shipments. Top flour exporter Turkey is allowing the Agriculture minister to adjust exports if needed.

Another factor of the 70s hyperinflation was coming from the Fed mandate, having as goals maximum employment, stable prices and moderate long-term interest rates. But an economic theory is stating that inflation and unemployment are inversely correlated. Low unemployment is triggering an increase in pay that leads to increase in demand leading to higher inflation.

Searching for solutions to cap the 70s inflation without too much pain induced by high unemployment for the population, the Nixon administration introduced wage and price controls between 1971 and 1974. While temporarily slowing the rise in prices the side effect was the high increase of shortages, particularly for food and energy. The Ford administration also failed in curbing inflation through a program of voluntary measures to discourage spending and encourage savings. When the Fed introduced tightening and credit controls in early 1980, the interest rates spiked, fell briefly, and then spiked again. Lending activity fell, unemployment rose, and the economy entered a brief recession in the first 7 months. Inflation fell but was still high even as the economy recovered in the second half of 1980. The Fed continued to press the fight against high inflation with a combination of higher interest rates and even slower reserve growth. The economy entered a more severe recession again that lasted more than a year. Unemployment rate rose to nearly 11 percent, household spending decreased, and inflation continued to move lower. By recession’s end, year-over-year inflation was back under 5 percent. It eventually declined to average only 3.5 percent in the latter half of the 1980s, unemployment retreated and the economy entered a period of sustained growth and stability. The Great Inflation was over.


Bogdan Maioreanu, eToro analyst and markets commentator, has over 20 years of experience in financial services and investments and a strong background in journalism. He held different Corporate Banking management positions in both Raiffeisen Bank and OTP Bank, before moving to business consultancy roles working for IBM Romania among others. Bogdan is an Executive MBA from Asebuss and Washington University.


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