A recession is a concept in macroeconomics, indicating abrupt slump of the rate of production over a long period (half a year or more). The process is characterized by zero or negative dynamics of the GDP (gross domestic product). Recession leads to a decline in business activity and the slowdown in economic development. Reduction of GDP means the decrease in production volumes and consumption. Recession inevitably follows the rise (manufacturing boom), due to the cyclical nature of any economic system.
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In general, this cycle consists of four phases – the growth (rise), stagnation (stabilization, the absence of any dynamics), recession (slump) and the crisis (depression). The main impact of the recession in the economy includes the decline in production, the collapse of the financial markets, decrease in lending activity, the increase in interest rates on credits, growing unemployment, decline in real income of the population, the fall in GDP. The most powerful and critical consequence of the recession is the crisis of the economy.
Fiscal policy is one of the main methods of government intervention in the economy to reduce fluctuations in the business cycles and provide a stable economic system in a short term. Fiscal policy today is a tool that defines the main directions of state’s financial expenditures, financing methods and the primary sources of replenishment of the budget. The main instruments of fiscal policy are the revenues and expenses of the state budget, taxes, transfers, etc.
Fiscal policy in the country is held by the government. As a tool of public administration, it has several objectives. The first goal is the stabilization of gross domestic product and thus, of aggregate demand. Fiscal policy is an instrument used exclusively in the period of instability and manifestations of the crisis symptoms in the economy. Since the Great Depression, fiscal policy is very often used by the US government and other countries to save the economy.
The effect of such policy is often minimal over the long term. The mortgage crisis, which was followed by the financial crisis of the US economy in the second half of 2007, created a situation of growing uncertainty not only in the medium and long term, but even in short-term forecasting system of Federal Finance, and the American economy as a whole (Hetzel, 2012). This circumstance has created the effect of the shock to the top political leadership of the USA, which continued to evaluate the status of the main parameters of the Federal budget, mainly based on pre-crisis mechanisms of budget deficits, at which the peak value in one particular financial year presupposed their sequential decline over subsequent years.
Before the Great Recession, fiscal policy has not been considered as effective anti-crisis measures, its instruments were regarded as remnants of the Keynesian model. The Great Recession, however, revived the Keynesian approach in the US and almost all other countries (Lavoie, 2014). The sharp rise in public spending was to support the demand of the private sector. The expansionary fiscal policy promotes the growth of the money supply and does not allow the economy to slip into deflation and recession (Cristini, 2014).
Traditional monetary policy presupposes that central banks tend to maintain market rates for interbank lending certain limited target level, raising or lowering the interest rate. Also, the central bank can achieve its target interest rate by conducting banking operations in loan capital market by buying or selling government bonds to banks and other financial institutions. Buying or selling bonds, the central banks alter the amount of money in circulation and the rate of return on government bonds, thereby affecting short-term credit interest rate.
During the financial crisis of 2008-2009, a number of central banks in developed economies have resorted to a policy of zero interest rates. According to this policy, central banks had no opportunity anymore to influence the increase of money supply and encourage borrowing setting the zero nominal interest rate. In autumn 2008, in the midst of the global financial crisis, the US Federal Reserve begins to lower the interest on Federal Funds Rate (Hetzel, 2012).
In December of the same year followed the decision to reduce rates of central banks of European countries-leaders. The decision to adopt such measures meant a change of strategy, and it subsequently became a program that was called “Quantitative easing” (Hausken & Ncube, 2013). Quantitative easing or QE is not the conventional view of policy used by central banks to stimulate the economy in times when conventional monetary policy does not have the desired effect. It took place in three rounds under the names of QE1, QE2, and QE3 (Hausken & Ncube, 2013). The result of this program was the delay of the decline in GDP growth rates.
Increasing the monetary base during the program of “Quantitative easing” did not only keep the US money supply from falling but also ensured its growth almost in half. The result of such demand-side policies is the resumption of economic growth. This skillful US policy allowed them to return to economic recovery ahead of other developed countries. It should be noted that the enormous increase in the monetary base did not lead to inflation. Moreover, throughout almost the entire period of monetary easing the Federal Reserve System has struggled with deflation.
Cristini, A. (2014). The Great Recession, housing wealth and consumption in the European countries. In Cristini, A., Fazzari, S., Greenberg, E., & Leoni, R. (Eds.), Cycles, Growth, and the Great Recession (pp. 157-182). New York, NY: Routledge.
Hausken, K., & Ncube, M. (2013). Quantitative easing and its impact in the US, Japan, the UK and Europe. New York, NY: Springer Science & Business Media.
Hetzel, R. (2012). The great recession. Cambridge: Cambridge University Press.
Lavoie, M. (2014). Post-Keynesian economics. Northampton, MA: Edward Elgar Publishing Ltd.