Causes of an economic downturn could include:
- Global recession – downturn in world trade leads to lower exports and lower domestic demand. This is increasingly important in global economy.
- Fiscal Austerity. If government is forced to cut spending and increase taxes, this can lead to lower domestic demand as consumers have lower disposable income
- Tightening of monetary policy. Higher interest rates lead to lower growth
- Oil Price Shock. Higher oil prices cause an increase in costs and a decline in disposable income leading to lower economic growth.
- Falling Asset prices. A fall in house prices leads to a decline in consumer wealth and lower consumer spending. Also banks lose money on mortgage defaults.
- Deflation. Deflation (falling price level) discourages spending and increases the real value of debt, leading to lower spending and investment.
- Negative shock on confidence. If people are pessimistic about the future, then they will seek to increase saving and reduce their spending, leading to lower economic growth.
The causes of the sharp economic downturn in 2008
- Falling House prices (why house prices are falling) (problems with Housing Market)
- Credit crunch (see: mortgage crisis explained)
- Contraction of Credit following demise of Lehman Brothers and general credit crunch
- Fall in Confidence affecting consumer spending and investment
- Global downturn in economic growth (financial crisis explained)
- Cost Push inflation of early 2008, causing a squeeze in living standards