Recession and high price
- May 19, 2022
- Posted by: OptimizeIAS Team
- Category: DPN Topics
Recession and high price
If oil prices remain high like they are, then there are fears that the world might enter a recession in two years, a top source said.
Periods of high oil prices frequently lead to periods of recession shortly after. There are main reasons for this.
- Strong correlation between oil prices and cost push inflation-Higher oil prices cause a rise in the price of petrol, (gasoline) energy, and the cost of transporting all goods. Further, used as an input in production of various goods might increase cost of production and transportation.
- Lower disposable income for consumers-If oil prices are rising, consumers will face rising living costs and their disposable income will not go as far leading them to cut back on some purchases. With rising oil prices we get both higher prices and less demand, a situation which can lead to ‘stagflation‘
- Upward pressure on interest rates-When inflation spikes due to cost-push inflation, it puts pressure on Central Banks to raise interest rates. Higher interest rates will slow down economic activity because higher rates increase the cost of borrowing and discourage spending and investment on credit.
- Uncertainty Often oil prices rise in response to some major event, say- Russia-Ukraine crisis 2022. Therefore, in addition to higher oil prices, businesses are responding to the greater political uncertainty and negative effects to trade.
- Reduction in marginal efficiency of capital– The marginal efficiency of capital displays the expected rate of return on investment, at a particular given time. Given, reduced consumption demand and inflation will cause reduction in marginal efficiency of capital and thus, the investment demand will decrease causing the growth to slow down.
|A recession is a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales.|
While there is also no standard definition for depression, it is commonly defined as a more severe version of a recession.
In particular, the economic theory of the Phillips Curve, which developed in the context of Keynesian economics, portrayed macroeconomic policy as a trade-off between unemployment and inflation.
Stagflation was first recognized during the 1970s when many developed economies experienced rapid inflation and high unemployment as a result of an oil shock. The prevailing economic theory at the time could not easily explain how stagflation could occur. Generally, stagflation occurs when the money supply is expanding while supply of goods and inputs is being constrained.