Causes And Consequences Of The Great Recession

Causes of the Great Recession

Question:

Discuss About The Caused By Fast Growth Erroneous Directives?

Recession is a part of what many economists will refer to as Business cycle. The great recession, generally referring to the US 2008 recession was caused by several factors, all happening at the same time and at the end causing a severe decline in the national economy .Recessions are characterized by declined inflations and high rates of unemployment. Recessions follows periods of high growth in economy also called the boom Freeman (2013 p. 143)

The USA recession led to worldwide monetary catastrophe shocking the confidence of both the consumers and businesses in a multiplicity of countries. Considering its effects, it was termed as great recession which led to economic meltdown and spread out at an alarming rate in every corner of the world. It was considered the worst case of the economic decline as the huge depression US was recession after World War 11 (Howell and Azizoglu, 2012, p.154).

According to many economists, this great recession mainly came up as a result of abrupt busting of house bubble in US, caused by fast growth of erroneous directives of sub -prime mortgages. In order to understand the great recession, this research has analyzed both the consequences and causes of this great financial crisis (Phillips and Nugent, 2014, p.123).

During this period the US faced severe difficulties including banking institutions at the point of bankruptcy. This fiscal emergency was largely exaggerated by the global disparities, risk perception, rates of interests, and guidelines of the financial procedures. The factors which led to the great recession were summarized as;

Collapse of Lehman brothers in 2008 marked a beginning of a new page in international catastrophe. There was a struggle around the governments with an aim of rescuing financial institutions given that the stock market and housing had collapsed. Many of these institutions continued to face very solemn liquidity problems (Kehoe and Prescott, 2013, p. 177).

Research clearly shows that there were no regulations of subprime mortgages where these mortgage industries could sell mortgages without considering whether purchasers could pay back. In 2007, the subprime mortgages in US were at $1.3 trillion and with an approximate of $ 7.5 million outstanding mortgages. This is because the mortgage was lifted to about 22% of the total originations of the mortgages through the US peak housing bubble. The vast majority of subprime mortgages were as a result of massive foreclosures hence largely affecting institutions and private mortgage brokers who are not under Community Reinvestment Act cover. It thus indirectly affected a slow growth and started a fall on the consumer expenditure and investment

Consequences of the Great Recession

The monetary authorities of US had adjusted the rates of interest to extraordinary levels leading to a debt-finance consumption boom which led the way in boosting housing bubble. It is also argued that the rates of interest in US were low for too long to that they stood at just 1 percent in the years 2003 and 2004 which brought about the great financial crisis. The monetary policy in US is criticized for failing to grip the overrated asset bubble and at the same time causing the fast enlargement in mortgages Bernanke (2014, p. 165).

The high subprime mortgages defaults had led to credit crunch which narrowed to a sudden shortage of money and hence resulting to decline in the available loans. Many commercial and investment banks faced massive losses as a result of the mortgage loans. Banks were therefore very reluctant to give out loans to people and even other banks hence leading to a decrease in funds circulating in money markets (Kehoe and Prescott, 2013, p. 190).

US house markets are very important bases of consumers spending and the economic growth rate. Several factors affected the house price to increase faster than the consumers earning, and as a result it brought about overvalued assets. It was noted that the house prices were increased rapidly until 2006 and then experienced decline after the boom. When the prices went down to regulate the disparity, it had noteworthy effects on the consumers expenditure where individuals were unable to get additional resources for expenditure (Kehoe and Prescott, 2013 p. 187).

The US arrears positioned at 65% of the GDP in the year 2007 hence becoming worse when the liabilities from pension were considered. At this deficit, the US administration had small fiscal policy expansion ability because the demographics were against the fiscal stability hence worsening the deficit. This deficit led to difficulties in attracting the flow of capital as the Asian shareholders who were conscious of this deficit slowed down the flow of capital to America leading to diminishing value of the dollar Bernanke (2014, p. 135).

Based on the economic theory, a decline in exchange rates eventually helps in increasing the exports and stimulating the growth in the export sector. The depreciation in the dollar value however, had led to cost-push inflation and eventually led to decline in the standards of living where goods were highly expensive hence leading to decline in individuals spending power. This dollar decline made US less competitive compared to its trading partners (Elsby, Hobijn and Sahin, 2012, p.132).

The Business Cycle

Even after the official end of the great recession, the effects of this worst downturn in economy are still being felt in US, commonly in GDP, rates of unemployment, trading partners, GFC and aggregate demand as discussed below.

The economic activities are dignified by the real gross domestic product was contracting sharply until the policy makers passed the bill on financial stabilization and the American Recovery and Reinvestment Act. As a result the economy started growing in the year 2009 and has averaged 2.2% annual growth since then (Phillips and Nugent, 2014).

Typically, the rate of unemployment will increase whenever an economy goes through a period of recession. There is a peak 15 months after the recession and then drops gradually as the economy continues to peak. Research shows that the total economic activity contracted by a 5% during this period of great depression and unemployment shifted from 5 % in 2007 to 10 % in 2009. From that time, there was stabilization in unemployment at around 9%, still a rate which was not favorable Higgs (2013, p.165).

The great financial crisis led to breakdown of international trade flows. Indeed these trade flows went down 30 percent relative to the gross domestic product.  The US real exports and imports which are non-petroleum fell nearly by 27 percent. One of the interesting features of this great recession is that, it was mostly a rich-country affair. It might have accelerated the long run growth of the emerging markets such as India and Mexico in global and also the US trade. However, a country’s rate of income growth can only be a part of this story. Both Canada and Germany bypassed the US in terms of income during this period and from that moment their trade shares with the US have reduced (Eichengreen and Temin, 2013, p.150).

The business cycle refers to the increase and decrease of economic growth occurring over a period of time. It’s an essential tool for analyzing the economy and making of financial decisions.it has four phases; expansion, trough, peak and contraction. During expansion, the GDP which measures the economic productivity is rising. Unemployment reaches its normal rate of 4.5 to 5.0; inflation on the other hand is about the target of 2% given that the stock market stays at bull market (Jenkins, Brandolini and Micklewright, 2012, p 69).

The second phase is the peak and simply refers to the month when the expansion shifts into the third phase. During to this phase (contractionary) of cycle the economic growth undergoes a weakening period resulting to a GDP fall to even below 2 percent. When it turns to negative, it’s then referred to as recession. At this point in time unemployment rates starts to increase and stocks go into a bear market. The fourth stage is the trough and it is the time when the economy month when the economy shifts from contraction to expansion phase Romer (2013 pg. 186).In the case of great recession for example; the economy went down abruptly by 2.7 percent in the first quarter of 2008. After recovering 2% in the 2^nd quarter, citizens thought the recession was gone. However, it contracted by another 1.9% in the 3^rd quarter a massive fall of 8.2% in the 4^th quarter. The financial system encountered bluster in the 1^st quarter of 2009 after contracting 5.4%. The rate of unemployment went up from 5.0 to 7.3% between January and December. The trough took place in the  in the second quarter of the year 2009 when the GDP drop 0.5 percent and unemployment increased to 9.5 percent Ball (2014, p.47).

Expansion Phase

The phase of expansion began in the third quarter of the year 2009, GDP rose by 1.3 as a result of incentive spending by the American Recovery and Reinvestment Act. Due to the harsh contraction phase which had happened, the unemployment rate continued to worsen to an extent of even 10 percent in the month of October Romer (2013, p. 176).

Aggregate simply means ‘total’. We use the term to measure the expenditure by all consumers, industries, government and firms abroad.

Aggregate demand (AD) = total spending on goods and services

Formula for the calculation of aggregate demand is:

AD = C + I + G + (X-M)

The disparities in real GDP, joblessness and price increases for the time period of the 2007 GFC can be recapitulated in the collective Demand/Supply. The US economy was experiencing  negative supply shocks in the fiscal year 2017/18 because there was a fall down in the domestic housing bubble, an mega increase in the prices of oils and also an increase in the prices of some other commodities. This caused a shift in the short run aggregate supply to the negative side. The latter clarifies the onset of the GFC, since a negative supply shock facilitates growing inflation and little production, and hence increasing in the rates of unemployment. However, because this negative supply shock was closely followed by the negative shock in demand Hamilton (2012, p.190). The aggregate demand curve budged to the left, causing a disinflation in 2008 and deflation 2009, a downbeat production expansion of about 3% in 2009, and an increase in the rate of unemployment. It was not until year 2011 when the curve went back to its normal position as a result of intervention from the government. This made price increases and GDP to pick once more Palley (2015).

Conclusion

The Great Recession brings realistic concentrate a great part of the general message as examined previously. Actualities of the occasions paving the way to this emergency are mind boggling, however taken all in all; this artifact affirms the imperative part of interest as a main cause of the present economies over broad compasses of time. Request matters for the institution of present day economies past simply short-run business cycles, and approach can’t bear to be underestimated since request era will be sufficient to keep up full work, even finished period-long skylines. Besides, in the present recorded period, the key motors of interest have been noteworthy movements of wage circulation consolidated with the elements of money related vulnerability.

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