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How the Recession Ends

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The end of the recession is not yet in sight, but some observers are now wondering what the recovery and expansion will look like.

Some argue that a structural change is occurring that will cause the economy to grow at a slower rate in the future because of a permanent change in behavior.
Others debate whether the recovery will resemble a U, V or W trend line.

With the end of the recession at least three or four quarters away, there is no firm evidence to support any theory shape of the upcoming recovery and expansion.
Of course, that doesn’t stop economists from making assumptions.

Some of those who argue for a permanently slower pace of growth in gross domestic product have pointed to the increase in the personal savings rate that would translate into less spending by consumers.

In the mid-1970s, the savings rate relative to disposable income was a little more than 12 percent, according to the Bureau of Economic Analysis.

Over the years, it trended downward and averaged about 0.5 percent in 2007. But as the recession took hold, it started to rise. The savings rate stood at 3.2 percent for the fourth quarter of 2008, the latest data available.

The fear of job loss has caused a permanent change in behavior, some argue, to the degree that the savings rate will continue to rise and hamper GDP growth.

Others argue that the savings rate typically rises during recession as consumers delay purchases — and save more — for fear that they might become unemployed.
This recession is no different.

The shape of the recovery and ensuing expansion is generally described as a U, V or even W.

The U proponents say the recovery will be shallow and slow to take hold as bank lending policies remain restrictive for a longer-than-typical period and weak global demand softens the U.S. recovery.

Or they may argue that inflation starts to accelerate as the recovery takes hold, and that causes the Federal Reserve to pull back stimulus and slow growth in an attempt to constrain inflation.

The V enthusiasts point to the fact that pent-up demand is building.

Households and firms are putting off spending on items such as cars and equipment that won’t be replaced until the recovery is firm enough to ensure that unemployment won’t rise further or demand won’t drop off.

National housing starts provide a good example — they rose 47 percent in the first 12 months after the 1991 recession ended.

The W supporters are probably the most pessimistic.

They expect the economy to grow for a couple of quarters. But similar to the early 1980s, the V takes a downward turn and becomes a W.

A driver of the W could be that monetary and fiscal stimulus start to take hold. But the economy’s initial rise isn’t sustainable and fails to perform to policy expectations.
In reality, many factors will drive the shape of the recovery.

And an unanticipated event can throw off even the most thorough and logical forecast.

Used with permission from the Richmond Times-Dispatch.

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