Where there’s a recession, there’s a recessionary gap. Probably. Or else...it wouldn’t be much of a recession.
A recessionary gap describes the gap between actual GDP and if-we-weren’t-in-a-recession-rn GDP. The hypothetical GDP, called “potential GDP” is based on estimates, which are assuming full employment.
Usually, recessions come with layoffs, so unemployment goes up. All those unemployed people who wish they had jobs...yeah. All of their unused work hours and ethic that would be contributing value toward GDP makes up the recessionary gap.
When real GDP is lower than the level of GDP with full employment, prices go down. The people who got laid off don’t have money to spend, and the people who have jobs aren’t spending, because they’re afraid they’ll get laid off.
How do we know when the gap is no more? When we’ve got near full employment, and wages are at market equilibrium. It’s not easy bouncing back though; often, firms that survive recessions have learned to do more with less...including fewer employees. So it can be difficult to get back to full employment.
A government might choose not to intervene during a recession, or they might pull an “expansionary policy” strategy to try to boost real GDP. Boom or bust, as the Fed says. (They don’t...but they could.)
Related or Semi-related Video
Finance: What is Recession?15 Views
finance a la shmoop what is recession well here's one here's another and
another and well here's an economic recession so technically when GDP [Set of teeth appear]
declines for two sequential quarters that is a recession and you can glean
enough from this most excellent chart that in most years GDP grows not
massively but relatively steadily and with compounding the US has grown GDP
from a trickle to a torrent in a recession economic activity declines [Recession definition appears]
maybe a half a percent a percent maybe two percent and you might not think
that's a big deal but we're a nation living on credit that is plastic these [Man using credit card]
things mortgages car loans bunch of other credit II kind of things so a
decline of even 1% when we were expecting growth of two is a delta of 3%
and that change is exacerbated with leverage when people fear for their job
safety they stop buying those extra pairs of earrings at the mall they get [Woman biting her nails]
one less tattoo and they stop making appointments at Botox Depot so all of
the sudden activity in given quote luxury sectors or otherwise unquote just [Person receiving a tattoo]
stops dead and there's a multiplier effect here as well because a wealthy
banker who used to throw 20 parties a year now only throws four so all those [Calendar displaying party days appears]
bartenders and oboe players and ice sculptors yeah they're all out of work
as well and then they buy less beer and that new ice pick the sculptor was gonna
buy yeah well she'll just sharpen her own and make do with it you know until
the GDP grows again after the recession is over in a few years so yeah [Boom/bust cycle appears]
recessions they're dangerous and credit high credit makes them all the more
dangerous so be wary
Up Next
What is a Business Cycle? A business cycle refers to the ups and downs in GDP or output over a period of time. Business cycles show times when the...