Bus702 Economics For Managers And Assessment Answers

Answer:

Introduction:

Recession could be termed as a considerable fall in the spread of economic activity throughout the economy, which has lasted for much time. This has been visible normally in real gross domestic product (GDP), employment, actual income, sales associated with retail and wholesale along with industrial production (Aguiar, Hurst and Karabarbounis 2013). The recession of US has resulted in a global financial crisis that has shattered the confidence of the consumers and businesses in many nations like China, European Union and other Asian nations. Due to this, the Great Recession of the US has been named causing financial downfall in the US and it has spread out rapidly to the other global nations. Therefore, the current essay aims to discuss the main causes that have lead to the Great Recession in USA.

Main causes of the Great Recession in USA:

It has been observed that USA had encountered severe issues like banks about to be come bankrupt, greater public debt levels, declining share market, imminent recession threat and frozen money markets. In the words of Bianchi and Melosi (2017), the international imbalances, risk perceptions, rates of interest and financial system regulation have affected the global financial crisis. There are certain major causes that have lead to the causes of the Great Recession in US. One of such causes is the housing crash, in which the US housing market is a main consumer spending and economic growth rate determinants. Certain factors influence the housing prices to increase at a faster rate in contrast to the consumer incomes and these have resulted in overvalued assets. At the time housing prices fail to rectify the imbalance, it had considerable influence on the spending power of the consumers, in which the individuals could not remortgage in obtaining additional capital for spending (Bitler and Hoynes 2015).

There was absence of regulation related to subprime mortgages, in which the sector of mortgage was successful in selling mortages without taking into account the repayment ability of the purchasers. According to Cadena and Kovak (2016), the overall value of the subprime mortgages of US had been $1.3 trillion in 2007. However, there has been outstanding amount of first-lien subprime mortgages of 7.5 million. This is because the subprime mortgage had risen to almost 20% of initiations related to mortgage at the housing bubble peak in USA. This had diversified considerably between 2004 and 2006. The greater amount of subprime mortgages has resulted in massive foreclosures and hence, the independent mortgage brokers and institutions have been affected highly, which the Community Reinvestment Act had not covered. This has resulted in slowdown of economic growth and the investment and spending powers of the consumers have started to decline (Christiano, Eichenbaum and Trabandt 2015).

The monetary authorities of US had made adjustments in the rates of interest at unprecedented levels developing a consumption boom of debt-finance and it leads the way to boost the housing bubble. However, Cynamon and Fazzari (2015) argued that the rates of interest in US have remained low and it has been 1% in 2003 and 2004 leading to the Great Recession. Along with this, the US monetary policy had not been able to manage the bubble of the overvalued asset and this has contributed to the fast growth in subprime mortgages.

As laid out by Del Negro, Giannoni and Schorfheide (2015), the defaults of greater US subprime mortgage had resulted in crunch pertaining to credit, which is denoted by a sudden shortage in fund leading to decline in the available loans. Moreover, the number of commercial and commercial banks is higher, which had incurred heavy losses because of the risky loans associated with mortgage. As a result, the banks had been reluctant in lending money to the individuals and to the other banks resulting in shortage of funds in the monetary markets. Furthermore, the financial sector has experienced liquidity shortage, which had increased the complexity of borrowings. This has resulted in minimised consumer investment and spending.

As commented by Kochhar and Fry (2014), the national debt of US had been 65% of GDP in 2007 and this had been the worst situation at the time of inclusion of pension liabilities. Due to such huge deficit, the government of US did not have much room for the expansionary fiscal policy. The main reason behind this is that the working of demographics had been opposing the fiscal stability and the phase related to economic cycle has worsened the deficit. Such deficit has posed complexities to attract capital flow, as the Asian investors aware of the nation’s deficit had minimised the flow of capital to US. This contributed to the devaluation of US dollar. Hence, it represented that primary imbalance is inherent between the domestic consumption and production and this had emerged out as an impediment for the future economic stability (Nevo and Wong 2015).

From the perspective of Pissarides (2013), a fall in the rates of exchange would enable eventually in increasing exports along with stimulating growth in the export sector in accordance with the basic economic theory. However, there is contribution of depreciating dollar in cost-push inflation along with decline in the standards of living, in which consumer products have been expensive resulting in minimised power of spending of the individuals. Such fall in dollar has caused the nation in losing its competitiveness in relation to the trading partners.

As the Great Recession of US occurred in 2007, it has resulted in crisis in most of the global economies. In the words of Riumallo-Herl et al. (2014), the middle-income nations, particularly Eastern and Central Europe along with the Commonwealth of Independent States have been affected greatly. On the other hand, the low-income nations like Ethiopia and Uganda had shown strong growth even during the downturn.

Thus, it could be stated that majority of the low-income nations had managed to avoid the negative effects of recession. These nations had encountered a slow economic growth because of the negative poverty implications (Taylor 2014). Conversely, the highly open and smaller economies had been hit strongly. In addition, there had been chances of survival for the bigger developing nations with the help of domestic demand and the spending of the government. It has been observed that the countries managed to recover rapidly from the effects of the global recession include India and China. Thus, the great recession of USA has resulted in severe effects to various nations. Hence, an analytical study has been presented regarding the consequences related to the US Great Recession has been demonstrated briefly below.  

As commented by Van Horn (2014), the impact of Great Recession in US is intense, as the effect is severe on the labour market of the nation. It has been observed that even though the government had adjusted the rate of inflation, which has enhanced economic growth by 2.2% in the third quarter of 2009, 5.6% in the fourth quarter of 2009 and 2.7% in the first quarter of 2010, the rate of inflation has remained extremely high. The rate of unemployment had increased from 9.5% in June 2009 to 10.1% in October 2009; however, it has declined to 9.5% in June 2010. The disassociation between the supply and demand of workers has been depicted in statistics like the layoff rate, hiring rate and the unemployment rate.  

It has been commented on the part of few analysts that the policies related to unemployment benefits need to be liable for abnormally greater rates of unemployment. The extended benefits of unemployment might have increased between 0.4% and 1.7% of the rate of unemployment. In addition, there is a strong tendency related to unemployment in becoming permanent, as those out of work for greater periods have become less productive and competitive in the job market. Furthermore, greater unemployment tends to increase the structural unemployment level; in case, there is a weak policy. Therefore, the inflation would raise greater rates of unemployment in contrast to the previous periods.

At the time of the Great Recession, the economy of India might turn down, as the Indian organisations with big tickets engaged in dealing with US have been seeing the shrinkage of profit margin and maximum of Indian firms have main outsourcing deals with the US organisations (Watson 2014). The merchandise of India has been exported to the Asian countries (52%), European Union (21%) and US (13%). However, due to the global crisis, the US share export has declined to 11%. This has been even lower in contrast to the United Arab Emirates. Every product except jewellery and gems has experienced a main contraction during the Great Recession. Out of these products, the greatest contraction has been seen in case of crude and petroleum products (45%) followed by allied and agricultural products (28%), exports of engineering products (22%), chemicals and associated products (9%) and textiles (2%).

In addition, the financial market of India has been hit badly from the Great Recession, in which the share market had declined and there has been devaluation of rupee in contrast to dollars. In addition, the banks have experienced major cash crunch in liquidity shortage in the market. As the major investors for India are the foreign institutional investors, they had withdrawn their investments for meeting their liabilities at their domestic currencies. The Indian currency had lost its strength in contrast to USD at the time the investors had withdrawn their investments. However, India had recovered rapidly from this recession, since the banks of the nation have escaped from the negative impact of subprime mortgage crisis, in which the main banks of the public sector have exercised utmost caution to provide loans to the individuals or organisations.

Conclusion:

From the above discussion, it has been found that there are certain major causes that have lead to the causes of the Great Recession in US. One of such causes is the housing crash, in which the US housing market is a main consumer spending and economic growth rate determinants. Certain factors influence the housing prices to increase at a faster rate in contrast to the consumer incomes and these have resulted in overvalued assets. At the time housing prices fail to rectify the imbalance, it had considerable influence on the spending power of the consumers, in which the individuals could not remortgage in obtaining additional capital for spending.

It has been commented on the part of few analysts that the policies related to unemployment benefits need to be liable for abnormally greater rates of unemployment. The extended benefits of unemployment might have increased between 0.4% and 1.7% of the rate of unemployment. In addition, a strong tendency has been observed in relation to unemployment in becoming permanent, as those unemployed for greater periods have lower productivity and competitiveness in the job market. Furthermore, greater unemployment tends to increase the structural unemployment level; in case, there is a weak policy. Therefore, the inflation would raise greater rates of unemployment in contrast to the previous periods.

References:

Aguiar, M., Hurst, E. and Karabarbounis, L., 2013. Time use during the great recession. The American Economic Review, 103(5), pp.1664-1696.

Bianchi, F. and Melosi, L., 2017. Escaping the great recession. The American Economic Review, 107(4), pp.1030-1058.

Bitler, M. and Hoynes, H., 2015. Heterogeneity in the Impact of Economic Cycles and the Great Recession: Effects within and across the Income Distribution. The American Economic Review, 105(5), pp.154-160.

Cadena, B.C. and Kovak, B.K., 2016. Immigrants equilibrate local labor markets: Evidence from the Great Recession. American Economic Journal: Applied Economics, 8(1), pp.257-290.

Christiano, L.J., Eichenbaum, M.S. and Trabandt, M., 2015. Understanding the great recession. American Economic Journal: Macroeconomics, 7(1), pp.110-167.

Cynamon, B.Z. and Fazzari, S.M., 2015. Inequality, the Great Recession and slow recovery. Cambridge Journal of Economics, 40(2), pp.373-399.

Del Negro, M., Giannoni, M.P. and Schorfheide, F., 2015. Inflation in the great recession and new keynesian models. American Economic Journal: Macroeconomics, 7(1), pp.168-196.

Kochhar, R. and Fry, R., 2014. Wealth inequality has widened along racial, ethnic lines since end of Great Recession. Pew Research Center, 12, pp.1-15.

Nevo, A. and Wong, A., 2015. The elasticity of substitution between time and market goods: Evidence from the Great Recession (No. w21318). National Bureau of Economic Research.

Pissarides, C.A., 2013. Unemployment in the great recession. Economica, 80(319), pp.385-403.

Riumallo-Herl, C., Basu, S., Stuckler, D., Courtin, E. and Avendano, M., 2014. Job loss, wealth and depression during the Great Recession in the USA and Europe. International journal of epidemiology, 43(5), pp.1508-1517.

Taylor, J.B., 2014. The role of policy in the great recession and the weak recovery. The American Economic Review, 104(5), pp.61-66.

Van Horn, C.E., 2014. Working scared (or not at all): The lost decade, great recession, and restoring the shattered American dream. Rowman & Littlefield.

Watson, M.W., 2014. Inflation Persistence, the NAIRU, and the Great Recession. The American Economic Review, 104(5), pp.31-36.