Close Encounters with Recessions of the Third Kind

PARIS: Three types of recessions exist. The first type are those caused by major shocks, say an outbreak of war or a sudden, sharp increase in the price of petroleum. Recall that the OPEC oil shocks of the 1970's incited two world recessions. The second category of recessions arise by chance, for example when consumer confidence dips, or businesses become uneasy and cut back on investment and/or inventory. This was the cause of America’s recession in the early 1990’s.

The third type of recession occurs when imbalances in an economy build up to unsustainable levels before exploding. This form of recession is sometimes characterized by vast increases in debt (corporate or consumer), or by dizzying stock market or capital asset speculations that eventually come crashing down. The “popping” of such an asset bubble is what happened in Japan 10 years ago, an event from which that country has not yet recovered.

Recessions of the first type are, almost by definition, largely unpredictable. Those of the second type are minor and relatively easy to repair if not to avoid. All that they usually require is a reduction in interest rates or a bit of reflation. Recessions of the third kind are the most worrying. Is America facing this third type of recession?

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