Stagflation in the 1970s

Contributor: Nathan Murphy. Lesson ID: 13555

Economic policies that helped pull the U.S. out of the Great Depression began to implode in the 1970s. The loss of faith in that system ushered in a brand new economic theory that is still used today.

categories

Economics, History, United States

subject
Government
learning style
Auditory, Visual
personality style
Beaver
Grade Level
High School (9-12)
Lesson Type
Dig Deeper

Lesson Plan - Get It!

Audio:

Beginning with the Great Depression in the 1930s, American economic policy attempted to control the U.S. economy through inflation and unemployment. These two opposing factors had to be balanced because too much of either was bad.

However, in the 1970s, something unthinkable happened. Both inflation and unemployment rose simultaneously, and no one knew what to do.

Post-War Years

After World War II, the economic policies of the New Deal coupled with the mass mobilization of Americans created incredible progress.

American suburbs grew rapidly, the middle class ballooned, and civil rights began to slowly include minority groups. By the 1960s, Americans had begun to take economic prosperity for granted.

aerial view of a suburb

Keynesian Economics

The major pillar of Keynesian economic theory is the opposing relationship between inflation and the unemployment rate.

woman placing shopping carts on coins

Inflation is the rate at which the money supply is increasing.

The more money there is in circulation, the less value each unit of money has. Inflation is not bad, but too much of it will make your money worthless.

When the country's population increases, inflation is necessary as more people make more money. However, if too much money is created, the prices of everything will rise.

Unemployment tracks the number of people who have lost a job.

When prosperity goes down and companies lose business, they begin to lay off people. With fewer jobs and less money in the economy, it becomes more difficult to get a job and unemployment goes up.

For 40 years after Keynesian policies were first implemented, every U.S. president would simply target whichever of these factors was increasing too fast.

If inflation were increasing, the money supply would be cut and taxes would be raised in order to slow the economy until the inflation growth rate was reduced.

If unemployment were increasing, incentives would be created for companies to hire people and taxes would be lowered until the money supply increased.

  • Do you see how these two factors opposed each other?

If one were too high, the other could be moderately increased in order to find a healthy balance.

Lyndon Johnson

Lyndon B. Johnson, 1964

Image by Arnold Newman, WHPO, via Wikimedia Commons, is in the public domain.

During President Lyndon Johnson's administration, spending increased considerably due to the Vietnam War and his Great Society programs.

The Vietnam War had become significantly more expensive by 1968, with hundreds of thousands of soldiers in the small country. Meanwhile, at home, Johnson's Great Society and War on Poverty programs rapidly increased spending on social programs that were meant to help every poor American.

The cost of countless new social programs and a decades-long engagement in Vietnam slowed the economic progress that so many people had come to expect in the United States of America.

Richard Nixon

Richard Nixon, 1971

Image [cropped] by Oliver F. Atkins, via Wikimedia Commons, is in the public domain.

The economy began to slow in 1971 as people purchased fewer goods.

America had become a consumer society, and companies that sold raw materials like steel relied on massive orders to keep prices down. When people stopped purchasing at historic rates, prices naturally went up.

This frightened Nixon and many other politicians who feared they were headed toward a recession.

As a result, Nixon instituted wage and price controls that locked the price of goods like milk and bread at a set price. If the goods that Americans were buying did not go up in price, then inflation could be controlled.

These restrictions lasted for two years...until something changed.

OPEC

OPEC concept

In an effort to demonstrate the influence it held over the day-to-day operations of the western world, the Organization of Petroleum Exporting Countries began to limit the world's oil supply.

  • What effect do you think this had on raw resources?

The price of everything rose because companies that needed to transport goods around the world and into grocery stores now had to spend a lot of money to buy the limited oil. Simultaneously, without enough oil to transport goods, companies had to let people go.

  • So, what was happening in the U.S. economy at that moment?

Unemployment was going up and inflation was rising due to price hikes.

The economic thinking at the time, though, was that prices only go up when the economy is prospering and everybody is making more money.

Jimmy Carter

Jimmy Carter, 1977

Image [cropped] by Department of the Navy, via Wikimedia Commons, is in the public domain.

By 1978, President Jimmy Carter decided what could be done to get the economy back on track.

Pay attention to his explanation for why he will not lower taxes as you watch Jimmy Carter-Anti-Inflation Program Speech (October 24, 1978) from MCamericanpresident:

This stagnant economy coupled with inflation is referred to as stagflation.

Seven years after the government's first measures against stagflation, Carter was still dealing with inflation and unemployment that was too high.

  • Why didn't he want to lower taxes in this situation?
  • What role would austerity measures play in the economy?

Because stagflation ocurred even though nobody ever thought it could, Carter explained that lowering taxes would only raise inflation. People would have more money, and that would increase the money supply.

This economic solution would have slowly worked after many years, but the American people were exhausted after nearly a decade of a slow economy.

Supply-Side Economics

supply-side economics

During this period of uncertainty, a new economic theory arose that rejected Keynesian theory and offered an all-new economic system.

As you watch The theory of supply-side economics, from Newsy, pay attention to how this theory utilizes tax cuts in a way Jimmy Carter did not want to:

When you are ready, head over to the Got It? section to put yourself in the shoes of someone struggling in the 1970s.

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