Entries Tagged 'recession' ↓

Mervyn King, governor of the Bank of England has said that the UK faces the prospect of a recession, with output falling for at least 1 or 2 quarters. However, on balance he still feels the most likely situation is for the UK to avoid recession; but, growth will remain sluggish in 2009 and 2010.

Factors That Could Push the UK into Recession

Low Wage Growth.

Average real wage growth in the UK has averaged 1%. With rising cost of living, people’s discretionary income is barely increasing.

Rising Unemployment.

Yesterday saw the first sign of a change in the unemployment pattern with a rise in registered unemployment.

Falling House Prices

UK House prices have started to fall and this has a powerful negative impact on the economy - see: effects of falling house prices

Rising Cost of Living

Rising food prices and rising energy prices reduce discretionary income leading to falling demand. (for A Level students note that the AS curve shifts to the left causing a movement along AD curve).

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Readers Question: Why is US in Recession?

Firstly, it may come as a surprise to most people, but, the US is not officially in a recession.

According to the latest statistics provided by the Economist April 24th 2008

• US economic growth is 2.4% year on year.
• In the last quarter, growth is 0.6%. This is still a long way off the technical definition of a recession - negative economic growth for two consecutive quarters.

Nevertheless people have been predicting that the US will soon enter into recession. This is because

1. Credit Crunch. Banks have lost money in lending subprime mortgages, which involved high levels of defaults. It is not just mortgage companies who have been affected, but, banks who lent to the mortgage companies. The result is that there is a shortage of funds for borrowing and bank lending has become more difficult.

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Readers Question: Consider the view that leaving the economy to private enterprise and the market system is more likely to lead to recessions and instability than to sustained economic growth.

Without government intervention, I believe the economic cycle would be more volatile.

• Booms and busts will be more common see: The economics of Herding and irrational behaviour
  
• Economies can get stuck in recessions, where resources are under utilised and it can take a long time for the economy to recover. See: Keynes general theory.
• The finance sector does need regulating. The experience of the current credit crunch suggests that banks are not good at self regulation; it would have been better to have stricter regulation of lending and this would have avoided many bad debts.

See: How long do recessions last?

However, government intervention is not always successful:

• Problems in preventing a recession
  

Also, it is argued by classical economists that economies will automatically recover after a fall in short term output. But, the experience of the great depression shows that a lack of government intervention can cause problems.

Readers Question: Identify and explain economic variables that may be affected positively by the economic slowdown.

Does anyone benefit from a recession?

Some people who may do well in a period of a slowdown in economic growth

• Companies dealing with bankrupticies and IVF
• Companies dealing with debt problems
• It is said bookmakers and publicans do well in a recession because people like to ‘drown their sorrows’ with small gambles and getting drunk. (this may be just an old wives tale though )
• Pawnbrokers and people who pay cash for goods
• Firms selling inferior goods. (goods where demand rises when income falls) e.g. value goods, second hand stores e.t.c.
• Greater efficiency - enabling economy to more productive in long term
• Economists and analysts - get to talk about recession and how to get out of it

Related articles

• Can A recession be Really a good thing?
• How To Survive a recession
  

In this essay - How to survive a recession. I looked at some of the most likely effects of the impending recession. I also suggested some ways to counter the adverse effects of recessions. There are few recession proof industries, but, any recession tends to hit some businesses much more than others.

To some extent, there is little you can do about the short term effects of a recesion. But, it is also worth remembering that the media can often exaggerate the extent of a recession making things sound more dire than they actually are.

Economic recessions 

Readers Question: How Long do Recessions last?

There is no exact answer. Recessions can last for varying time lengths depending on the causes and also the response of Governments and consumers.

The great Depression.

The Great Depression which started after the wall street crash in 1929, lasted for several years in the UK and US. The length of the recession was due to several factors including:

• Government’s seeking to balance budget by increasing taxes
• Negative Multiplier effect
• Global slowdown in trade
• Lack of economic stimulus

See also: The Great Depression

In recent years, recessions in the UK and US have lasted for shorter time periods.

UK recession 1981 was severe for manufacturing recession, but lasted less than a year. However, unemployment persisted at close to 3 million for another 5 years.

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With talk of recession in the UK and US, the outspoken chairman of Ryanair, Michael O Leary, recently suggested that recessions actually have many advantages. His argument was that recessions encouraged greater efficiency and forced inefficient firms out of busines. In this essay “Is a recession a good thing?”, I argue that broadly speaking he is wrong; recessions tend to undermine economies and create unnecessary unemployment.

Nevertheless are there some people who benefit from a recession.

1. People producing inferior goods like Tesco value bread and Buses. Demand for these goods may rise in a recession.
2. Pawnbrokers.
3. Pubs and Betting shops. It is alleged that in a recession people like to drown their sorrows and bet on winning a few pounds. I don’t know how true this is; to be honest is sounds like an old wives tale.
4. Economists. Everyone wants to ask economists why we are in a recession and how to get out of a recession. Generally speaking economists are very good at answering the first question.

• Causes of recessions?
• For more ideas there is a good article at the Guardian newspaper on recessions

Readers Question: What will happened to the income of business sector if there is an economic decline in America?

An economic decline in the United States, is pretty much guaranteed to reduce the income of the business sector. The recent falls in the US stock markets are largely due to  expectations of a future downturn in the economy. Lower growth leads to lower profits, therefore dividends decline and shares become less attractive. If the US enters into recession, firms will experience a decline in profitability. This is because:

1. Tendency for price wars to develop in a recession. Low sales encourage firms to cut prices
2. Falling sales will lead to lower revenues.

Some firms will be affected more by the downturn. Firms producing luxury goods (Income elasticity of demand >1) will experience the biggest % fall in demand. This is likely to include manufacturers of luxury cars, 5 star hotels. Firms producing basic necessities will be more insulated from the effects of a recession.

With the US heading towards recession, there are several things being done to try and avoid recession. Basically, the government and monetary authorities need to try and increase Aggregate Demand and also increase consumer confidence. There is no guarantee that they will work.

Policies to avoid a Recession

1. Cutting Interest Rates.  Recently, the Fed cut interest rates by 0.75% a big stimulus for consumer spending. Amongst other things, lower interest rates reduce mortgage interest payments, giving consumers more disposable income. - Fed Cut Interest rates by 0.75%
   
2. Freeze on Subprime Mortgage Rates. There is a 5 year scheme to freeze subprime rates, preventing house repossession. Effects of Freezing subprime rates
3. Tax Cuts. Cutting taxes increases consumer disposable income. But, will people spend if they are nervous about the future? Can tax cuts avoid a recession?
4. Increase in Government Spending. Higher government spending is another way to stimulate the economy. The US has not announced much in this area. They are hampered by budget deficit and preference for tax cuts.
5. Devaluation. The devaluation of the dollar is not particularly a policy, it is something that is just happening. However, the weaker dollar is boosting the US export sector and could help avoid recession. Effects of devaluing dollar.

Related

Can UK and US avoid Recession?

Difficulties in getting out of a recession 

In a recession, fiscal policy and monetary policy can, in theory be used to increase Aggregate Demand and boost economic growth. However in practice there can be many difficulties with boosting a countries economic growth rate and reducing unemployment.

• Problems in recovering from recessions
• Why Do Recessions last a long time

1. Confidence. In a recession confidence may be so low that cuts in interest rates and taxes do not have the effect  of increasing demand. For example the liquidity trap says that lower interest rates are ineffective in increasing spending because they do not change people’s behaviour at certain times

2. Hysteresis. This is an argument that when unemployment is high it is difficult to change that fact. - Workers become deskilled and demotivated. Therefore, even an increase in AD doesn’t solve unemployment because many workers don’t have the relevant skills and capacities to get a job.

3. Paradox of Thrift. - In a recession people often want to save. But, this just makes the recession worse. It can lead to a negative multiplier effect. A fall in spending leads to less output. Lower output creates unemployment and so even more people have less skills.

• Paradox of Thrift