US-Iran war threatens once-in-a-blue-moon economic phenomenon, but panic mode not here yet
As if hurricanes, fuel shortages and aggressive bull sharks weren’t enough to fret about, do we also need to prepare for stagflation?
Economists are increasingly worried that a toxic mix of macroeconomic pressures could push Australia towards a doomsday scenario: sharply rising living costs at the same time as a recession and rising unemployment.
Former Treasury secretary Martin Parkinson believes there is a very real chance this rare economic phenomenon could hit Australian shores.
He raised the alarm in a speech to the National Press Club earlier this week, warning current Treasurer Jim Chalmers against doing a U-turn on much‑needed tax reform.
“At a time of rising inflation and weak economic growth, it is imperative that (the) government pulls all the levers that can significantly boost productivity,” said Parkinson.
As we “stare into stagflation”, he urged Labor to use the upcoming May Budget to incentivise innovation and investment, and to “raise the speed limits on our growth rate”.
“These windows of opportunity close quickly,” said Parkinson. “When they are open, we need to strike, and strike hard.”
If Parkinson’s warnings prove accurate, it would not only mark a return to early‑1970s‑style economic conditions but also carry far‑reaching consequences for the Australian mortgage market.
The bigger picture
REA Group senior economist Eleanor Creagh (pictured, left) sees stagflation as “one of the most challenging environments for both households and policymakers”.
The combination of higher inflation and slower economic growth means borrowers will face higher interest rates, while mortgage rates could remain elevated for longer, even as incomes and economic growth soften.
"Higher interest rates directly reduce borrowing capacity,” Creagh told MPA. “If we see the 125 basis points of tightening this year that some expect, that will weigh on buyer demand and sentiment, and would equate to roughly a 10% reduction in borrowing capacity, meaning less ability to bid up prices.”
It’s worth noting that Australia’s battle with inflation was ongoing well before the onset of the Middle East conflict.
The Reserve Bank of Australia (RBA) had already lifted interest rates twice before the conflict escalated, reversing much of the progress on monetary easing throughout 2025.
Bendigo Bank chief economist David Robertson (pictured, right) argues that for mortgage holders, the real issue isn’t the label “stagflation” but the concrete impact of inflation and higher interest rates on household budgets.
While the economic growth outlook matters, borrowers on variable-rate loans (i.e. the overwhelming majority of Australia households) will feel the squeeze primarily through rising repayments driven by inflation-fighting rate hikes.
Robertson noted that two RBA hikes have already added more than $200 a month in repayments for an average $700,000 to $750,000 loan, before factoring in higher fuel costs. On top of that, higher energy costs flow through to broader goods, services and housing costs, compounding the pressure on disposable income.
In that context, he sees the inflation and rate path as more immediately relevant to mortgage stress than abstract debates about whether Australia technically enters a stagflationary phase.
Robertson, for the record, does not expect the Australian economy to enter a recession (let alone a stagflationary one), although he gives it about a 20% possibility.
His outlook heavily depends on how long the Strait of Hormuz remains closed – and how long price shocks continue thereafter. “It's probably important to keep in mind that since the Strait of Hormuz has been closed, it's not just oil and LNG not getting through. It's a bunch of other commodities and inputs that ultimately mean even building materials… become more expensive,” he said.
We can work it out
There is no immediate reason to panic – for one, unemployment remains extremely low. Even though Commonwealth Bank expects unemployment to shoot up more than previously expected, the bank’s base scenario is for it to hit 4.6% early next year. That’s just three percentage points above current levels.
CBA’s headline inflation forecast is more concerning – despite the RBA’s chokehold on the economy getting tighter, heading inflation could peak at around 5.4% this quarter, compared to a pre-war forecast peak of around 4%.
Yes, stagflation would hit mortgage holders where it hurts, leading to the prospect of higher default rates and a marked slowdown in credit demand. Perhaps this is the system shock needed to rein in unsustainable house price inflation, but but the doomsday clock is not ringing midnight just yet.
“We need to be mindful of a range of possible scenarios and outcomes, but equally we should take some comfort in Australia having low levels of unemployment and well-regulated industries,” said Robertson. “It's a challenge, and higher interest rates and cost of living are always a challenge, but history would suggest that we'll work our way through the cycle.”
As for investor lending, while Robertson reckons stagflation could knock demand off a little, there are far greater concerns for this side of the mortgage market.
Despite protestations from the housing industry, it is looking increasingly likely that Labor will use the May Budget to push through reforms to the capital gains tax (CGT) discount and negative gearing.
“It'll be interesting to see what's in the May budget,” said Robertson. It sure will be.
