What Causes Recession?

There has been a lot of hot air being blown about the US economy’s performance over the last few years. It’s been touted as a “recovery” and even a “boom,” with job growth and GDP growth being some of the primary metrics used to give the lie to this. However, statistics and real-life experiences tell a different story. Since 2007 the US has had a severe economic recession, and the recovery has been just as fragile.

The economic recession is a period of prolonged financial hardship caused by a sudden decline in economic activity. The recession caused by the collapse of the housing bubble was a global event. However, it is a far less severe recession than the Great Depression of the 1930s that affected most of the world. The Great Recession, which began in late 2007, is the most recent economic downturn in the United States and the most severe since the Great Depression.

The causes of recession can be both evident and subtle. In fact, economists consider it as a black swan event. Essentially, a recession happens when financial institutions and businesses fail simultaneously. It usually results in massive layoffs and production downsizing. 

Causes Of Recession

Excessive Interest Rates

One should know that high-interest rates restrict liquidity–or the money that is available to be invested. In the past, it was the Federal Reserve that caused this problem. Specifically, the Federal Reserve has been raising its interest rates to secure the dollar’s value. An example was in the 1970s–when the Fed increased the interest rates to deal with stagflation. As a result, it contributed to the recession in the 1980s.

Loss Of Confidence In The Economy

The economy is a fragile thing, and just when you thought it had rebounded, it plunges back into a recession. What does that mean? These recessions are usually caused by a combination of a slowing down in the economy and a loss of confidence among consumers. Loss of confidence compels people to stop purchasing and resort to stashing money, which is a defensive move. It causes panic among people, and it infects businesses, too. Slow hiring, weak sales, and production cutbacks are among the signs that consumers are experiencing uncertainties.

Stock Market Crash

The stock market crash that is happening now results from the relationship between the stock market and the economy. In layman’s terms, that relationship is that stocks are publicly owned shares of businesses, and as such, the stock market is a reflection of the health of the economy. When consumers lose their confidence in the economy, it will cause a bearish market. It will result in the siphoning of capital from all businesses. 

Deregulation

It is also notable that legislators can cause an economic recession. This happens when they strip essential safeguards to the economic policies. A classic example of this matter is the S&L crisis and the recession it caused in 1982. Specifically, the Garn-St. Germain Depository Institutions Act was implemented at that time, causing the removal of loan-to-value ratio restrictions for those banks. 

Wage-Price Controls

The government controls the price of a product or service by setting the price an employer pays for that product or service. If the employer wants to reduce the amount of money they are spending on that product or service, the government can reduce that amount by setting the wage rate that the employer must pay their employees. This has been happening throughout American history and is still going on today. In fact, the government has expanded this practice to include the price of a holding in a corporation. The government cannot control every wage, but it can control the general wage level through this method. 

When former US President Richard Nixon controlled prices and wages in 1971 to deal with inflation, it caused employers to furlough their workers. After all, they were no longer allowed to slash their wages. It resulted in the reduction of market demands because people didn’t have enough income. Eventually, it resulted in the recession in 1973.

Deflation

Deflation is a word economists use to describe a decrease in the general price level. But what does that mean, and why is it a problem?

 

Since the amount we pay for all goods and services is the same every day, every person has the same amount of money each day to spend on all goods and services. As a result, when the price of something goes down, we tend to buy more. Unfortunately, that is not always a good thing. Deflation is a symptom of a weakening economy—and when a country’s economy is weak, prices of all kinds tend to drop.

 

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