Stagflation risk in 2026: what it is and why it matters

Traders on the prediction market Kalshi have been pricing a significantly elevated probability of stagflation hitting the U.S. economy — a sharp rise from the low single digits seen in early 2025 — as persistent inflation, a cooling labor market, and energy-price volatility converge in ways that economists say echo earlier stagflationary episodes. This guide explains what stagflation means, what is driving current concerns, what the Federal Reserve can and cannot do about it, and what the realistic range of outcomes looks like.

The anxiety reflects a convergence of pressures that analysts have been tracking since late 2024: inflation kept elevated by tariffs, a job market that has been softening for more than a year, and renewed vulnerability to oil-supply disruptions in the Middle East. Each of those forces alone would be manageable. Together, they have revived a word that American policymakers hoped to retire after the 1970s: stagflation.

What stagflation actually means

Stagflation describes an economy where inflation stays high at the same time that growth stalls and unemployment rises. The term is unusual because those conditions normally pull against each other: high inflation tends to accompany a hot economy with low unemployment, while recessions typically drive prices down. When both happen at once, the usual policy tools work at cross-purposes.

“Stagflation is when the economy is stagnant and inflation is rampant. And the sum of two negatives equals three negatives.” — Phillip Braun, clinical professor of finance at Northwestern University’s Kellogg School of Management, writing for Kellogg Insight

The classic reference point is the United States in the 1970s, when back-to-back oil embargoes sent energy prices surging while unemployment rose alongside inflation. That episode took years and a series of aggressive, painful Federal Reserve rate hikes — under then-chair Paul Volcker — to resolve. The memory of that period shapes how seriously today’s economists take the warning signs.

The U.S. has not experienced genuine stagflation since. The COVID-19 pandemic produced sharp inflation, but unemployment fell fast enough to prevent the stagnation half of the equation from taking hold. That recovery now looks, to some economists, like a narrowly avoided crisis, and many of the same structural vulnerabilities that were exposed then remain present today.

Why the current moment differs from recent inflation scares

The concern heading into 2026 rests on three distinct pressure points, each of which would be significant on its own.

Tariffs and their delayed price pass-through. Economists at the Peterson Institute for International Economics have noted that tariff effects on consumer prices tend to be gradual, with companies raising prices in small increments over time rather than all at once — meaning the full inflationary impact of trade restrictions imposed in 2025 may not be fully reflected in price data for months. The Stanford Institute for Economic Policy Research described the late-2025 dynamic as one in which “the weakening job market said ‘cut,’ while the tariff-induced price pressures said ‘hold,'” leaving the Federal Open Market Committee openly divided. Three FOMC members dissented in December 2025, the most since September 2019, according to SIEPR’s policy brief on the U.S. economy in 2026.

Energy-price vulnerability. The Middle East remains a persistent source of oil-supply risk, and analysts at the International Energy Agency have repeatedly warned that any significant disruption to flows through the Strait of Hormuz could constitute one of the largest supply shocks in the history of the global oil market. Elevated geopolitical tension in the region has contributed to higher and more volatile Brent crude prices, which feed directly into transportation, manufacturing, and household energy costs. The European Central Bank has cited energy-price uncertainty as a key reason for caution in its 2026 rate-path projections, raising its inflation forecast while trimming GDP estimates. Early 2026 data from the University of Michigan’s Survey of Consumers showed that energy-cost concerns were eroding household sentiment that had only recently begun to recover.

A labor market that was already softening. The unemployment rate moved above 4% in mid-2024 and has remained there, according to Bureau of Labor Statistics data. Phillip Braun of Kellogg has told Kellogg Insight that economic data available even before any new energy shock indicated a slowing economy and rising unemployment — meaning, in his assessment, “we might be heading into recession already, even without the oil-price shock.”

RBC Economics describes the current condition as “stagflation lite,” forecasting that core inflation will remain stubbornly above 3% year-on-year for much of 2026, compounded by core services inflation that was running at approximately 3.5% in the latest available 2025 readings. RSM US, in its 2026 economic outlook, calculates that tariffs and immigration policy changes together imposed roughly a 1% drag on growth in 2025, with the longest government shutdown in U.S. history adding a further 1.5% drag in the fourth quarter alone.

The Federal Reserve’s dilemma

Stagflation is particularly difficult for central banks because the two halves of the problem call for opposite responses. Raising interest rates can slow inflation but risks deepening a recession and pushing unemployment higher. Cutting rates can protect jobs and growth but risks entrenching inflation above the Fed’s 2% target.

At his March 19, 2025 FOMC press conference, Federal Reserve Chair Jerome Powell pushed back on the stagflation label while acknowledging the underlying tension. “I would reserve the term ‘stagflation’ for a much more serious set of circumstances,” Powell said, per the Fed’s official transcript. “We actually have unemployment really close to longer-run normal, and we have inflation that’s, you know, 1 percentage point above that.” He described the situation as one of “some tension between the goals,” not a full stagflationary episode. Yet in the same press conference he acknowledged concern about “a repeated set of things” — including the pandemic and tariff shocks — saying: “We worry a lot” about inflation expectations becoming unanchored.

The question of Fed leadership continuity is also a live one: Powell’s term as Fed chair is set to expire in May 2026, and any transition in leadership adds a further layer of uncertainty to the policy path at a moment when consistency of communication matters most, as SIEPR has noted.

Gregory Daco, chief economist at EY-Parthenon and president of the National Association for Business Economics, told CNBC that duration is the decisive variable: “If there is a severe, prolonged shock, then yes, certainly there is a risk of entering a stagflationary environment.”

What the range of outcomes looks like

Forecasters are not in agreement on where the U.S. ends up, and several have explicitly acknowledged that the uncertainty is unusually wide. RSM US attaches roughly a 30% probability to a severe scenario in which inflation reaches 3.5% or above, the Fed is forced to return its policy rate to 4% or higher, and unemployment climbs to 5% or beyond. The firm’s base case is more moderate: GDP growth around 2.2%, PCE inflation near 2.7%, and unemployment at approximately 4.5%.

Eugenio Aleman, chief economist at Raymond James, told CNBC that any stagflationary episode would likely fall short of the 1970s in severity. “If there’s a recession and inflation goes up, then there’s a potential for a short period of stagflation — which means low, below potential growth rate and higher inflation — but not something close to what happened in the ’70s and early ’80s,” Aleman said.

On Kalshi, the soft-landing probability — the scenario in which the economy slows gradually without high inflation or recession — has declined meaningfully from levels seen in early 2025, according to CNBC reporting, as tariff and energy-cost data began registering in forward-looking market indicators.

Key variables that will determine which scenario materializes, according to Kellogg’s Braun and the Peterson Institute, include whether oil prices remain elevated through the summer, how geopolitical developments in the Middle East affect supply routes, and whether the Fed’s current or future leadership maintains the credibility of the 2% inflation target under political pressure. The Peterson Institute has also cautioned that the tariff pass-through to consumer prices has not run its full course, which means upside inflation risk remains even if the energy shock fades.

Monthly employment and inflation reports from the Bureau of Labor Statistics will provide the clearest near-term signals of which direction the economy is heading. RSM US has said it does not expect clarity on the trajectory until well into the second half of 2026.

Sources: CNBC, the Stanford Institute for Economic Policy Research, the Federal Reserve’s FOMC press conference transcripts, Kellogg Insight (Northwestern University), RBC Economics, RSM US, the Peterson Institute for International Economics, the International Energy Agency, and the University of Michigan Survey of Consumers.