Entries Tagged 'recession' ↓

Readers Question What is meant by the term deflationary recession?

A recession is a period of negative economic growth. (official definition is a period of negative economic growth for two consecutive quarters) see: Definition of Recession

Deflationary pressures imply a fall in aggregate demand. This leads to a lower rate of growth or a fall in GDP and consequently a lower inflation rate. Strong deflationary pressures may also cause inflation to become negative. i.e. a fall in prices known as deflation. definition of deflation

So all recessions have deflationary pressures. However, when people talk of a ‘deflationary recession’. They may mean a recession with an actual fall in the general price level. i.e A fall in output and deflation.

Deflation tends to make a recession more serious and makes the recession closer to the definition of a depression.

For example, in the UK’s past two recessions 1981 and 1991 – the rate of inflation fell. But inflation always remained positive.

In the current recession, the RPI measure of inflation is negative. So with the recession we also have deflation.

(Although just to confuse things, the official measure of inflation CPI is still positive so I would argue we are not experiencing deflation just yet) But, it might occur soon.

Some people also refer to current recession as the Great Recession – because of its scale and magnitude

Readers Question: What is the difference between a recession and deflation?

A recession is a period of negative economic growth. – A decline in output (Real GDP) for two consecutive quarters.This is occuring in many countries. UK real GDP has fallen significantly since mid 2008.

Usually in a recession you will get a fall in the inflation rate.

However, deflation is when we get a negative inflation rate i.e. falling prices.

Since the second world war, recessions have not led to deflation – just a lower inflation rate. The last two recessions were caused by attempts to reduce a high inflation rate.

However, this current recession is so steep and severe that many economists fear that it will lead to deflation. Already, inflation measured by RPI has fallen to 0% and people predict RPI inflation will become negative in future months.

It is this fear of deflation that is encouraging the Central bank to pursue quantitative easing – increasing money supply to create some inflation and help stiumulate economy. (see – Why Quantitative Easing)

Difference Between Recession and Depression.

Interestingly many see deflation as a sign that the economy is experiencing a depression rather than just recession. (Other features of depression include a much bigger and longer fall in GDP)

• Definition of depression
• Definition of recession
• Deflation in UK

Readers Question: What does a Recession mean?

The definition of a recession is negative economic growth for two consecutive quarters. (see: definition of recession (definition of depression)

How does the recession impact:

1) Savings

In a recession, private sector savings tend to rise. This is because people become more nervous to spend. The spectre of unemployment encourages people to save more and spend less. However, the rise in private sector saving may be offset by a fall in public sector saving (i.e. government borrowing increases to try and stimulate the economy)

2) consumption

Consumption will tend to fall because people are worse off.
3) Investment
Investment will fall. Usually investment is highly cyclical. Therefore, a recession causes a bigger % fall in investment than consumption. Confidence is very important to investment so in a recession, investment tends to dry up.

4) goverment spending
Automatic fiscal stabilisers will cause government spending to rise. e.g. in recession, government have to spend more on unemployment benefits. Also the government may pursue expansionary fiscal policy to try and increase aggregate demand e.g. spending on infrastructure projects.

5) aggregate demand

Aggregate demand is falling in a recession

See also: Impact of recession

Readers Question: What should the government do to ’solve’ the problems in the economy at the moment?

The most pressing problem facing UK, US and Eurozone is the slowdown in economic activity. Many countries are now in recession (negative growth). Therefore, unemployment is rising, government borrowing is rising and there is the prospect of deflation. Deflation would be very damaging and make it difficult for economies to recover.

Faced with this situation, one solution is for the government to increased demand in the economy.

This is why governments are pursuing expansionary fiscal policies of tax cuts and higher government spending. This requires higher borrowing, but, it is hoped that by injecting demand into the economy, the recession will be over quicker. If the government did nothing, then the economy could slip into a deflationary spiral and it could take much longer for economy to recover.

In addition to stimulating the macro economy. Governments feel obliged to prevent bank collapses which would seriously harm confidence and borrowing in an economy.

However, it is worth pointing out that there is a limit to what government intervention can do to overcome problems. There is only so much government can do to encourage spending. They probably can’t prevent house prices adjusting to lower levels, therefore there is an element of having to ’sit out the recession’

• Economic stimulus packages
• Problems in recovering from recession
• Recovering from 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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