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Definition of a Depression:
A depression is the severest form of recessions.
Economic activity fluctuates over time. Normally a country's economy grows. Output measured in gross domestic product increases. However, it is normal for economies to experience periods where economic output actually decreases. These periods of economic contractions are called recessions. Recessions are marked by declining sales, which result in businesses reducing production, lower profits, laid off workers, and an increase in business failures. Unfortunately, economic output may continue to decline because unemployed workers have less to spend, prompting businesses to cut back further. Companies lower prices to try to attract more business. Eventually, the economy begins to pick up, but if the recession lasts several years with great hardship, it may be classified as a depression. (There is no defining moment when a recession becomes a depression.)
The United States has only experienced one depression since 1900, the Great Depression in the 1930s. It began in August 1929. Real gross domestic product, the most common measure of output, fell 27 percent by 1933. Nearly 25 percent of American workers lost their jobs. The lowest point in a business cycle, or trough, was reached in 1933. Economies world-wide suffered as well. After 1933 production slowly began to increase, but it was not until 1936 that production finally reached the pre-Depression level. Companies were reluctant to hire, so unemployment remained very high. Employment rates fully rebounded during WWII.
Governments use fiscal and monetary policies to try to stimulate the economy by a combination of increasing government spending, reducing taxes, and manipulating the money supply to reduce interest rates. John Maynard Keynes developed Keynesian economics during the Great Depression to explain the Depression and identify a policy to eliminate it. During recessionary periods, Keynesians advocate increasing aggregate demand with government spending to pull an economy out of the doldrums sooner. Keynesian policies were endorsed by President Franklin Roosevelt in establishing the New Deal that most economists believe helped pull the US out of the Great Depression. Of course the spending incurred to finance the weaponry and troops in WWII also contributed to increasing the aggregate demand. Keynes’ views still influence policy makers today.
Dig Deeper With These Free Lessons:
The Federal Budget and Managing The National Debt
Aggregate Supply and Demand - Macroeconomic Equilibrium
Fiscal Policy - Managing an Economy by Taxing and Spending
Gross Domestic Product - Measuring an Economy's Performance
Monetary Policy - The Power of an Interest Rate