U.S. stocks hit new record highs last week, but the rally may not last because of heightened risks that the economy will revert to a 1970s-style stagflation scenario, JPMorgan Chase strategists said.
In a note to clients, the bank's chief market strategist Marko Kolanovic warned that the economy could move away from a "Goldilocks" scenario in which it neither expands nor contracts too much and enter a period of stagflation similar to that of the 1970s. .
“Returning to the question of the market macro regime, we believe there is a risk that the Goldilocks narrative will revert to something like the stagflation of the 1970s, with significant implications for asset allocation,” Kolanovic wrote.
Stagflation is a combination of economic stagnation and high inflation, characterized by rapidly rising consumer prices as well as high unemployment.
This phenomenon devastated the U.S. economy in the 1970s and early 1980s, as soaring oil prices, rising unemployment, and loose monetary policy caused the consumer price index to rise to 14.8% in 1980, forcing Federal Reserve officials systems to raise interest rates to almost 20% that year.
“There are many similarities with current times,” analysts said. “We have already had one wave of inflation, and questions are beginning to arise as to whether a second wave can be avoided if politics and geopolitical events continue on the same course.”
Concerns about stagflation grew in 2022 when the Fed began aggressively raising interest rates to curb rampant inflation, but those concerns dissipated last year amid signs that price pressures were easing without significantly hurting economic growth.
However, there have been some signs recently that progress in fighting inflation is slowing. Subsequent CPI reports for December and January came in above estimates, raising concerns that inflation could stabilize at abnormally high levels.
Investors had previously been betting on a series of aggressive rate cuts this year, but they lowered those expectations after sharper-than-expected inflation reports and cautious messages from Fed officials.
“Investors should keep an open mind that there is a scenario in which rates need to stay high longer and the Fed may need to tighten financial conditions,” Kolanovic said.
JPMorgan CEO Jamie Dimon also pointed to economic similarities between the 1970s and 2024, including large budget deficits, huge government spending and changing trade flows.
“I'm a little skeptical about this Goldilocks scenario,” he told FOX Business' Maria Bartiromo in December.