Recently, concerns about stagflation have been raised as the U.S. economy exhibits both declining consumer spending and rising prices. In January, consumer expenditures fell sharply, and companies have warned of price increases driven by tariffs. While experts argue that temporary factors should be taken into account, if stagflation materializes, the Federal Reserve could face a difficult choice between stimulating the economy and curbing inflation.
EY’s Chief Economist Gregory Daco stated, "There are slight signs of stagflation, but it is not at that stage yet." Recent indicators reveal weakening sentiment, declining consumption, and rising inflation expectations. This deterioration in sentiment is driven by President Trump’s punitive tariffs and cuts in public spending, as evidenced by a steep drop in consumer confidence in February and record-high inflation expectation indicators.
A series of recent U.S. data shows a resurgence of inflation and a slowdown in economic activity, sparking concerns that the world’s largest economy may be heading into a period of stagflation.
In January, following an active holiday shopping season, consumer spending fell by the largest margin in nearly four years. Americans have become increasingly pessimistic about the economic outlook, and companies are warning of price hikes due to the aggressive tariff policies of the Trump administration.
Economists caution against overinterpreting a month’s data, which may be distorted by factors such as severe winter weather. However, if the risk of stagflation—a situation characterized by low growth and high inflation—materializes over the coming months, the Federal Reserve will face a tough decision between supporting the labor market and completing its long-standing efforts to rein in inflation.
Both large corporations and small businesses have expressed concerns about the future outlook. The CEO of Ford warned that tariffs on goods from Canada and Mexico could hurt the automotive industry, while Chipotle mentioned the possibility of food tariffs. Small businesses are worried about frozen expansion plans, price hikes, and declining profits, with a Harris Poll indicating that about 60% of American adults expect prices to rise due to Trump’s tariffs. For example, NaturePedic, an organic mattress manufacturer, is facing inevitable cost increases due to tariffs on imported materials and is calling for tariff exemptions on materials that are not produced domestically or that are excessively expensive.
S. Treasury yields, which had reached record highs just before President Trump’s inauguration, have been trending downward, and bond investors are mindful of the possibility that the Federal Reserve might become more concerned with an economic slowdown than with inflation.
Federal Reserve officials have begun to acknowledge the possibility of a recession amid persistently high inflation, presenting a difficult challenge for the central bank, which must pursue both price stability and maximum employment. Lowering interest rates can boost the labor market but risks fuelling inflation, while keeping rates high can curb price increases but may trigger a recession.
Historical examples show that the Fed has previously responded aggressively to suppress inflation and curb inflation expectations. In the 1970s and 1980s, the Fed raised rates to very high levels, which led to rising unemployment and a recession.
This time, by keeping inflation expectations low, the Fed has managed to significantly suppress inflation without triggering a recession. However, as inflation expectations rise, the Fed may have to maintain high interest rates even in the face of economic weakness.
Diane Swank, KPMG’s Chief Economist, remarked, "The Fed might have been slow to raise rates, but stagflation is a completely different issue for the Fed. The Fed cannot allow stagflation to take hold."
President Trump has argued that tax cuts, deregulation, and tariff hikes will stimulate investment across the economy. Steven Miron, who was named chairman of the White House Economic Advisory Board by Trump, stated that despite high tariffs, a "great economy" is achievable.
However, companies are expressing their concerns. J.D. Yuing of COE Distributing, an office furniture wholesaler based in Pennsylvania, commented, "If our prices rise, our customers’ prices will also go up. This is something that must be fully understood. If implemented on a wide scale, there is no choice but for everyone’s costs to increase."
