Robert Tokle

Robert Tokle

Of the seven American recessions since 1970, three (1980, 1990-91 and 2001) were relatively mild and short (six to eight months). However, the other recessions were more severe and longer lasting (16 to 18 months), with each having a distinctly different cause. Below are some observations on these four recessions.

During the November 1973 to March 1975 recession, GDP declined by 3 percent while the unemployment rate peaked at 8.6 percent. Typically, declining demand during a recession wrings out excessive prices and reduces inflation. However, some may remember something different this time: Inflation also became an issue, exceeding 11 percent in 1974. (This led Congress to index Social Security benefits to inflation in 1975.) The OPEC Cartel, formed in 1960, discovered new monopoly power and restricted supply, causing oil prices to quadruple. This wreaked havoc on our economy (in economic jargon, causing the aggregate supply curve to shift back). The result was GDP declining and prices increasing simultaneously. The press coined the word “stagflation” to describe this new phenomenon.

A combination of the Federal Reserve Bank (the Fed) creating too much money attempting to keep interest rates too low, higher oil prices (oil prices sharply increased again in 1979), and building inflationary expectations led to even higher inflation, peaking at 13.5 percent in 1980. The Fed tightened monetary policy by sharply increasing interest rates to wring out inflation. It worked: Inflation fell to 3.2 percent by 1983. But this rapid decline came at a cost: GDP declined by 2.9 percent and the unemployment rate peaked at 10.8 percent during the July 1981 to November 1982 recession.

On the bright side, declining inflation helped pave the way for the “Great Moderation.” During the next 25 years, inflation remained contained and GDP growth was stable, interrupted by just two short recessions. In contrast, when the economy operated on its own, with virtually no macroeconomic policy between 1854 and 1919, the U.S. was in recession 45 percent of the time.

By the early 2000s, many perceived this steady economic growth, interrupted by an occasional short recession, as a new norm. Driven by “easy credit,” housing prices began to rapidly increase. Many financial institutions held too little capital, while housing down payments often required too little, and subprime mortgages were readily granted. And most significantly, investment banks carelessly packaged mortgages into mortgage-backed securities, to be sold rather than kept on lenders’ balance sheets. This created an incentive to make riskier mortgage loans that would later go bad.

Becoming complacent with the growing housing bubble, most were surprised when it burst, causing the first nationwide drop in real-estate prices since the Great Depression and a severe financial crisis. As historically documented, recessions caused by financial crises tend to be deeper and have slower recoveries.

GDP declined by 4.3 percent and the unemployment rate peaked at 10.0 percent during the December 2007 to June 2009 recession. This severe downturn was dubbed the “Great Recession.” We even experienced our first deflation since 1955.

Major stimulative economic policies followed. On the fiscal side, the October 2008 $700 billion Troubled Asset Relief Program (TARP) stabilized banks, while the February 2009 $787 billion stimulus bill was scored by the nonpartisan Congressional Budget Office to have had a positive effect on GDP and employment. TARP, known as the “bank bailout,” was vastly misunderstood, and most Americans don’t realize that the federal government eventually received all $700 billion back plus a profit.

The Fed ran an aggressive monetary policy, lowering short-term interest rates to near zero. In addition, it rolled out new policies that included lending facilities and quantitative easing (buying large amounts of long-term federal government bonds and mortgage-back securities to increase liquidity and decrease long-term interest rates). Growth remained steady but sluggish after the recession officially ended. A year later in 2011, against the advice of many economists, fiscal policy tightened. Even with this tighter policy, moderate GDP growth continued.

By 2019, the economy was looking good: The unemployment rate declined to 3.5 percent with inflation under control at 2.3 percent. COVID-19 hit fast and furious in early 2020, decreasing both aggregate demand and supply. The longest economic expansion on record (by eight months) ended with recession in February 2020. By April, the unemployment rate increased to 14.7 percent, the highest since the Great Depression.

The Fed activated stimulative monetary policies similar to those used during the Great Recession. In addition, going forward, they plan to allow for additional stimulus by easing their inflation target guidelines. They will allow inflation to exceed the 2 percent target to make up for periods of inflation running below 2 percent.

The major fiscal stimulus enacted was the March 2020 Coronavirus Aid, Relief, and Economic Security (CARES) Act. At $2.2 trillion, it amounted to about 9 percent of GDP. Huge indeed. Some of the better-known provisions included the $1,200 one-time payment for workers earning up to $75,000 per year, the supplemental federal government unemployment benefit of $600 per week, the Paycheck Protection Program, and state/local governmental aid (Idaho received $1.25 billion).

With bipartisan support not seen in years, CARES quickly passed 96-0 in the Senate. In contrast, Congress passed the February 2009 $787 billion stimulus bill along extremely partisan lines. Why this difference? It may be in part because these economic problems hit fast and were larger, and the cause (COVID-19) was viewed more like a natural disaster. No one’s business decisions were to blame, unlike the big bankers in 2008.

Although our economy recovered a fair amount during the third quarter, we are still facing strong headwinds as 2020 ends. The November unemployment rate was still 6.7 percent, with COVID-19 holding back recovery. Aggregate demand and supply will remain weaker until consumers and workers feel safer. With evictions and hunger expected to worsen by late 2020/early 2021, most economists and politicians agree more fiscal stimulus is needed since the CARES money has largely run out. Unfortunately, congressional bipartisanship from last spring has evaporated and we have been waiting since summer for a bill. As 2020 ends, some type of fiscal stimulus bill is likely to finally pass as we hope for a successful vaccine program to bring the virus under control and allow our economy to return to normal.

Robert Tokle is a professor of economics in the College of Business at Idaho State University.