Answer to Question #49210 in Macroeconomics for Banh Mii

Question

Explain whether you agree or disagree with the following statement: Some economists claim that the recession of 2007-2009 was caused by a decline in spending on residential investment. This can’t be true. If there had just been a decline in investment, the only firms hurt would have been homebuilders and firms selling lumber and other good used in building houses. In fact, many firms experienced falling sales during that recession, including automobile firms, appliance, and furniture firms

Answer 1

The expansion following the 2001 recession was in part stimulated by a boom in housing market investments. Many economists were concerned that a severe drop in residential investments would cause a recession throughout the economy because of residential investment's relationship to the gross domestic product and financial markets, and that a decline in housing prices would negatively impact consumer spending. A severe decline in the housing market and the illiquidity in the financial market were both evident by the third quarter of 2007. Some models based on historical data were showing the certainty of a recession in 2007. The best predictors of recessions are respectively interest rate spread, unemployment claims, and building permits. Building permits/new private housing units are a leading economic indicator whereas retail sales are a component of manufacturing and trade sales, which is a coincident economic indicator because it is highly correlated to GDP.