Wall Street begins to discuss: "Is American stagflation" back?

Shortly after Donald Trump officially took office as President of the United States, Wall Street began discussing a troubling topic: Is "stagflation" making a comeback in America?

Last Friday, both the Dow Jones Industrial Average and the S&P 500 experienced their largest single-day declines since 2025, highlighting a sharp shift in investor sentiment. Morgan Stanley stated that in most conversations with clients in recent weeks, there have been questions about the sustainability of "American exceptionalism."

Economic Growth Slows, Stagflation Concerns Resurface

In terms of inflation levels, despite multiple interest rate hikes by the Federal Reserve since the end of 2021, inflation remains stubbornly above the 2% target. The latest data shows that American residents' inflation expectations for the next few years have risen to over 3%, while the 5-year breakeven inflation rate has also climbed to a two-year high of 2.61%.

Recently, Bank of America Merrill Lynch economists Aditya Bhave, Jeseo Park, and others pointed out in their research report that some policies in Trump's agenda that negatively impact economic growth have been implemented earlier than expected, while fiscal stimulus measures have become milder and delayed due to the Republican Party's less-than-expected seat advantage in the House of Representatives, making the narrative of "stagflation" gradually become a focus of market attention.

However, according to their definition, the U.S. economy is currently in a mild state of "stagflation," and it is expected that severe stagflation akin to that of the 1970s will not "reoccur."

The report states that while U.S. economic growth has slowed, it remains at or above trend levels (around 2% low), and inflation has risen a few basis points due to tariffs and other factors, but overall remains below 3%— this situation is still friendly to risk assets.

Friday's PCE Data May Be Key

The report notes that economic issues are a winning factor for the Republican Party in elections, and improving economic performance is a key consideration of their policies. If measures such as tariffs, spending cuts, or immigration policies significantly harm economic growth or raise inflation, the Republican Party may adjust its policies to mitigate the impact.

Finally, Bank of America reviewed the economic performance during the Biden administration, when GDP grew at an annual rate of 3.2%, and the S&P 500 index rose by over 70%. Therefore, if the Republican Party hopes to achieve similar results, it needs to avoid triggering self-inflicted stagflation.

OANDA senior market analyst Kelvin Wong commented that the Federal Reserve is expected to adopt an increasingly hawkish monetary policy stance, which will tighten liquidity conditions and may "trigger a mid-term negative feedback loop in the U.S. stock market."

Some believe that for investors, the key data in the coming weeks will be the January PCE price index released this Friday. Others believe that to change the pessimistic sentiment of market participants, it may be necessary to wait for the non-farm payroll report and CPI data to be released on March 7 and 12