There is a specter haunting the U.S. economy: the Great Inflation of the 1970s. During this decade, a simultaneous increase in prices and unemployment paralyzed the U.S. economy and its policymakers.
Since the Great Depression in the 1930s, the Federal Reserve had dealt with economic downturns by lowering interest rates and letting the price of goods rise. In principle, lower rates would stimulate industries in the postwar period to borrow more and invest in production, creating jobs and reinvigorating the market. But rapidly rising prices in the 1970s failed to bring down unemployment while also eroding the wealth of households across the country.
Nearly 50 years later, some market watchers say a similar phenomenon is taking shape in the wake of extensive emergency government spending, pandemic-induced shortages and growing consumer demands. Many wary commentators argue that the U.S. government should nip this anticipated crisis in the bud by pursuing the same policies that stabilized prices in the 1980s: steeply raising interest rates even at the cost of job creation.
But this underlying historical interpretation may actually be wrong. New insights into the 1980s question whether higher borrowing costs and their extensive consequences on domestic employment and financial stability abroad were necessary to achieve long-term public good.
The Great Inflation of the 1970s left a deep imprint on people’s memories because it was extraordinary. Aside from the world wars, the Great Depression and a few transitory moments, inflation in the United States during the 20th century had for the most part stayed below 5 percent — except during the 1970s. Year-to-year changes in prices rose from 2 percent in 1965 to 14 percent by 1980.
For people living on the margins, the impact of this instability was devastating. The National Advisory Council on Economic Opportunity reported in July 1979 that “the households in the lowest 10 percent of income distribution [were spending] more than 119 percent of after‐tax income” on basic necessities. The price of milk had risen by 80 percent between 1965 and 1978. The price of sugar increased by 102.5 percent during the same period. Meanwhile, the average worker’s annual compensation grew by only 19.9 percent during those years.
These challenges were further aggravated by fuel shortages caused by the Organization of the Petroleum Exporting Countries’ oil embargo in response to the 1973 Yom Kippur War and the drop in Iran’s output during the country’s revolution in 1979. As a consequence, images of Americans queuing in long lines at the gas pump became conflated with the public memory of the broader market instability.