As economy struggles, ‘stagflation’ threat looms

Some numbers underscore the concerns:

• Prices paid by consumers were up 4.1 percent last year, the biggest increase in 17 years. Those higher prices — especially for heating homes and filling up gas tanks — are taking an ever-bigger bite out of paychecks. Workers' weekly earnings are down 1.4 percent from January a year ago when adjusted for inflation.
• Oil prices galloped past $100 a barrel to close at a record $100.88 on Tuesday. Those lofty energy prices are a double-edged sword: They can spread inflation through the economy by boosting the prices of lots of other goods and services, and they can leave people with less money to spend on other things, thus slowing overall economic activity. There are signs high energy prices are causing some damage on both of those fronts.

People are hunkering down. Earlier this month, nervous shoppers handed the nation's retailers their worst January in almost four decades. High gas and food prices, the toll of the housing bust, the credit crunch and a tougher job market all were to blame. Disappointing sales were widespread, hitting discounters like Wal-Mart Stores Inc. and upscale merchants like Nordstrom Inc.

Wary employers eliminated jobs in January, the first nationwide loss of jobs in more than four years.

With the economy on the edge of a recession — if it hasn't toppled over already — the Fed for the near term is much more likely to keep lowering rates. Yet, with its own forecast revised last week to show even slower growth this year as well as higher inflation and higher unemployment than previously anticipated, Bernanke and his colleagues have made clear they'll need to stay nimble.

Can a serious bout of stagflation be avoided? Many economists believe the Fed's aggressive rate cuts along with tax rebates for people and tax breaks for businesses will lift the economy in the second half of the year.

Until then, analysts warn that it could feel like the country is suffering through a mild case of stagflation— even if technically that is not the case. "It could feel like a bad flu," said Bethune.

In the past stagflation episode in the 1970s and early 1980s, inflation sometimes hit double digits — much higher than the current rate. And unemployment was higher, too. In 1975, for instance, the jobless rate zoomed to 8.5 percent, the highest since the early 1940s. Last year, by contrast, the jobless rate averaged 4.6 percent.

"In the real economy, activity looks slow but not disastrous," Alice Rivlin, former vice chair of the Federal Reserve, told Congress Tuesday. But she added: "Uncertainty remains great. ... The risks are mainly on the downside and gloomier forecasts are not hard to find."

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