Everyone's talking about 'stagflation:' What is it and should you be worried?

The term "stagflation" has been thrown around quite a bit lately.

Mohamed El-Erian, a top economist and president of Queens' College at the University of Cambridge, made headlines recently when he said in an interview that stagflation is here even if a recession isn't just yet. And according to a recent survey by the Securities Industry and Financial Markets Association, 80% of economists have reported stagflation as a long-term risk to the economy.

If you haven't already, it's not too hard to deduce from the term "stagflation" itself just what it means: a stagnant economy combined with inflation. Or as many would say, it's not a good place to be in.

We already know one part of this equation is true. There's no question that we're currently experiencing record-high inflation. The second part about slowing economic growth is becoming clearer — the latest data shows the economy officially shrank 1.6% in the first quarter of 2022 — but we are not yet at the high unemployment mark that typically characterizes a "poorly performing economy," as Laurence Kotlikoff, an economics professor at Boston University, puts it.

"We're not in stagflation as the unemployment rate in May was very low — just 3.6%," Kotlikoff tells Select.

But that leaves many still wondering: Should I be worried? How much of a serious risk is stagflation? Below, Select takes a closer look at what it all means.

Economists have varying answers on this, but a lot depends on the GDP data that we'll see come out of the second quarter, Kotlikoff warns. This data will indicate if we are truly in a recession, which is technically defined as two consecutive quarters of negative GDP growth and is often accompanied by high, or rising, levels of unemployment.

"Stagflation is recession accompanied by inflation," Kotlikoff says. "We're not clearly in a recession, so we're not clearly in a [period of] stagflation."

At the time of Select's interview with Kotlikoff, however, he mentioned that the Atlanta Federal Reserve was predicting just 0.3% growth for the second quarter of this year: "If that proves right, I'd say, apart from the great unemployment figure, that we're in a [period of] stagflation," Kotlikoff says.

But as of July 1, the latest data shows that the Atlanta Federal Reserve is now estimating -2.1% growth, down from the 0.3% growth number Kotlikoff referenced.

We can infer that as long as the economy's expansion stalls and inflation remains high, there will be a fear of stagflation. A big part of this also depends on how unemployment numbers unfold in the coming months.

Whether financially preparing for a recession or stagflation — or just trying to set yourself up to be as financially stable as possible — conventional money moves such as building up an emergency fund, cutting expenses from your budget and paying down debt are all applicable here.

Plus, with interest rates rising and expected to go even higher, now is a smart time to pay down any variable interest-rate debt, such as credit card balances, before it becomes even more expensive.

Credit cardholders who carry a month-to-month balance should consider transferring that costly debt to a balance transfer card. Many of these cards offer an introductory 0% APR period of up to 21 months which can help you make a sizable dent in your debt without any additional interest accruing. Select ranked the Citi Simplicity® Card and the Citi® Diamond Preferred® Card as some of the best 0% APR balance transfer cards.

There's a way to prep your big purchases, such as homebuying, as well. "Mortgages are great inflation hedges, as you get to repay in watered-down dollars," Kotlikoff suggests. "Yes, mortgage rates are high, but after inflation, they are actually still negative."

Kotlikoff paints a financially savvy scenario of taking out a long-term mortgage while simultaneously purchasing and holding long-term, inflation-indexed Treasury bonds. "You'll win on your mortgage repayment if inflation continues or rises and be protected on your Treasury bond investment with one big caveat — the inflation protection is taxed," Kotlikoff explains.

Another way to prep purchases while protecting yourself against inflation is to buy things now that you'll otherwise need to buy in the future. "You can buy next year's paper towels today and store them," says Kotlikoff. "But what's true of paper towels is true of any planned future spending — on cars, additions to your home, clothes, appliances and similar durables. This explains why these natural inflation hedges are rising in price — even faster than the overall inflation rate."

While we wait to see how the second quarter's GDP numbers officially shake out, we can conclude already from what we have seen in the first quarter and with today's record-high inflation that the economy is not as strong as it once was. Try not to worry and instead be proactive in setting up the best financial scenario you can so that no matter what unfolds, you'll be prepared.

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