K. Elwell Specialist in Macroeconomic Policy
2007-2009 recession was long and deep, and according to several indicators was
the most severe economic contraction since the 1930s (but still much less
severe than the Great Depression). The slowdown of economic activity was
moderate through the first half of 2008, but at that point the weakening
economy was overtaken by a major financial crisis that would exacerbate
the economic weakness and accelerate the decline.
Economic recovery began in mid-2009. Real gross domestic product (GDP) has been
on a positive track since then, although the pace has been uneven and
slowed significantly in 2011. The stock market has recovered from its
lows, and employment has increased moderately. On the other hand,
significant economic weakness remains evident, particularly in the balance
sheet of households, the labor market, and the housing sector.
Congress was an active participant in the policy responses to this crisis and
has an ongoing interest in macroeconomic conditions. Current macroeconomic
concerns include whether the economy is in a sustained recovery, rapidly
reducing unemployment, speeding a return to normal output and employment
growth, and addressing government’s long-term debt problem.
In the typical post-war business cycle, lower than normal growth during the
recession is quickly followed by a recovery period with above normal
growth. This above normal growth serves to speed up the reentry of the
unemployed to the workforce. Once the economy reaches potential output
(and full employment), growth returns to its normal growth path, where the pace
of aggregate spending advances in step with the pace of aggregate supply.
There is concern that this time the U.S. economy will either not return to
its pre-recession growth path but perhaps remain permanently below it, or
return to the pre-crisis path but at a slower than normal pace. Problems on
the supply side and the demand side of the economy have so far led to a weaker
than normal recovery.
If the pace of private spending proves insufficient to assure a sustained
recovery, would further stimulus by monetary and fiscal policy be warranted?
One lesson from the Great Depression is to guard against a too hasty
withdrawal of fiscal and monetary stimulus in an economy recovering from a
deep decline. The removal of fiscal and monetary stimulus in 1937 is thought to
have stopped a recovery and caused a slump that did not end until WWII.
Opponents of further stimulus maintain that the accumulation of additional
government debt would lower future economic growth, but supporters argue
that additional stimulus is the appropriate near-term policy. There is
concern that the “fiscal cliff,” the confluence of various spending cuts and
tax rate increases that are scheduled to occur at the beginning of 2013
unless policies are changed, could have an adverse effect on the economic
In regard to the long-term debt problem, in an economy operating close to
potential output, government borrowing to finance budget deficits will in
theory draw down the pool of national saving, crowding out private capital
investment and slowing long-term growth. However, the U.S. economy is
currently operating well short of capacity and the risk of such crowding out
occurring is therefore low in the near term. Once the cyclical problem of
weak demand is resolved and the economy has returned to a normal growth
path, mainstream economists’ consensus policy response for an economy with
a looming debt crisis is fiscal consolidation—cutting deficits. Such a
policy would have the benefits of low and stable interest rates, a less fragile
financial system, improved investment prospects, and possibly faster
Date of Report: October 12, 2012
Number of Pages: 27 Order Number: R41332 Price: $29.95
For email and phone orders, provide a Visa, MasterCard, American Express, or Discover card
number, expiration date, and name on the card. Indicate whether you want e-mail
or postal delivery. Phone orders are preferred and receive priority processing.