Every economy experiences cycles of busts and booms. The severity of an economic downturn depends on the fiscal policy used before the crisis. However, monetary policy can lead to a recovery. A recession is a downturn of an economy. It is characterized by a slowing rate growth in productivity and employment. This leads to a drop in household incomes and consumer spending. Often, the value of the stock markets fall, causing panic among investors. This slows the rate of investment. A recession is usually a short-term economic event. However, it can develop into a more serious, long-term economic depression. It is very important that a central banking authority, like the Federal Reserve Board, use stabilization policies to help the economy recover from a recession.

CS Question #1: What is a recession?

In August of 1990, the leading economic indicators showed that the U.S. economy was in a state of recession. Growth and investment had slowed. The nation's economic future was growing dimmer by the day. This was a period following the Persian Gulf War, and high oil prices had shocked U.S. consumers. In addition to gasoline prices, prices of most consumer goods were also rising. The result was a growing level of inflation. When inflation increases, the value of money decreases. This includes the value of investments. Inflation can often lead to a decline in investment and a corresponding loss in the value of the stock market. The U.S. economy was stuck in an inflationary cycle. Companies were allowing inventories to dwindle and were slowing their production. They also began to lay off their workers.

Alan Greenspan was Chairman of the Federal Reserve. Immediately after accepting the position, he faced a troubled economy. In October of 1987, only two months after he joined the Fed, the stock market crashed. Greenspan was confronted with panicked investors. Lenders were worried about the availability of currency and the diminishing rates of investment. Greenspan quickly solved the problem using monetary policy. He released more currency into the U.S. economy. Almost four years later, recession affected the U.S. economy. The economy appeared weak and unstable. Greenspan again used monetary policy to help stabilize the economy. This time, he reduced the interest rates. This made credit less expensive and borrowing more attractive. The result was an increase in investment, especially in new and improved areas of technology. Once the economy had regained its strength, Greenspan increased the interest rates to curb the possibilities of inflation.

CS Question #3: How did Alan Greenspan use monetary policy to influence the U.S. economy?

In many ways, the U.S. economy recovered based upon its own strengths. The end of the Cold War and the breakup of the Soviet Union created a new era of global trade. Free market ideologies spread throughout Europe, Asia and Latin America. These ideas created profitable new markets for U.S. businesses. Most importantly, advances in technology made existing industries more efficient. These advances also allowed high-tech companies to create new and profitable industries. Throughout the rest of the decade, the Fed has increased and decreased the interest rates in small amounts to curb inflation. For the most part, the economy has been self-correcting. The stock market has increased and decreased without any assistance from the government. However, the future remains uncertain. Currently, oil prices have risen dramatically. Russia's economy is in shambles. High-tech companies and Internet start-ups have lost market value, as investors are unsure of the profitability of these companies. Meanwhile, Alan Greenspan's tenure as Chairman of the Fed is almost over. It will be interesting to see how the next Chairperson of the Fed will use monetary and fiscal policies to grow the U.S. economy.

CS Question #4: What other factors contributed to U.S. economic recovery from the recession of 1990?

Further Thought:

1. What other methods can a nation's government use to control its economy?
2. How does inflation relate to economic growth?
3. Presidents are often judged based on the state of the economy. Many people believe that President George Bush lost his reelection bid in 1992 due to the recession that had shaken the nation the year before. Why is the state of the economy so important to American voters?