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What is Economic Recession? - Definition, Causes & Effects

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  • 0:00 Economic Recession Definition
  • 0:25 Factors That Cause Recessions
  • 1:15 Recessions & Gross…
  • 1:45 The Great Recession of…
  • 2:35 Effects of a Recession
  • 3:25 Lesson Summary
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Instructor: Paul Mckinney

Paul has been in higher education for 17 years. He has a master's degree and is earning his PhD in Community College Leadership.

A recession is a general downturn in any economy. A recession is associated with high unemployment, slowing gross domestic product, and high inflation.

Economic Recession Definition

Economic recession is a period of general economic decline and is typically accompanied by a drop in the stock market, an increase in unemployment, and a decline in the housing market. Generally, a recession is less severe than a depression. The blame for a recession generally falls on the federal leadership, often either the president himself, the head of the Federal Reserve, or the entire administration.

Factors that Cause Recessions

High interest rates are a cause of recession because they limit liquidity, or the amount of money available to invest.

Another factor is increased inflation. Inflation refers to a general rise in the prices of goods and services over a period of time. As inflation increases, the percentage of goods and services that can be purchased with the same amount of money decreases.

Reduced consumer confidence is another factor that can cause a recession. If consumers believe the economy is bad, they are less likely to spend money. Consumer confidence is psychological but can have a real impact on any economy.

Reduced real wages, another factor, refers to wages that have been adjusted for inflation. Falling real wages means that a worker's paycheck is not keeping up with inflation. The worker might be making the same amount of money, but his purchasing power has been reduced.

Recessions and Gross Domestic Product

An economic recession is typically defined as a decline in gross domestic product (GDP) for two or more consecutive quarters. GDP is the market value of all goods and services produced within a country in a given period of time. An example of one type of GDP would be the value of all the automobiles produced within the United States for one year. GDP only takes into account new products that have been manufactured. Therefore, if a pre-owned car lot were selling pre-owned cars, they would not be included in the GDP calculation.

The Great Recession of 2007-2008

Poor and irrational lending policies from the financial industry led many people to buy houses they could not afford because everyone thought housing prices would continue to rise. In 2006, the bubble burst as housing prices started to decline. An escalating foreclosure rate caused panic, many banks and hedge funds who had bought mortgage-backed securities on the secondary market suddenly realized they were facing huge loses. By August 2007, banks became afraid to lend to each other because they did not want these toxic loans as collateral. This led to the $700 billion bailout from the government to help save several large financial institutions from bankruptcy. By December 2008, employment was declining faster than in the 2001 recession, and the United States fell into a deep recession.

Effects of a Recession

One effect of a recession is a slump in the stock market. This is when goods and services are difficult to sell when consumers' purchasing power is reduced. Therefore, business earnings fall along with their stock market price.

An increase in unemployment is another recession effect. Businesses reduce production because consumer spending slows. Therefore, employees lose their jobs as businesses cut back on production.

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