Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail
Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

Economic Recovery

What it is:

An economic recovery is a period of economic expansion, typically after a recession.

How it works (Example):

Let's assume that there has been a significant decline in industrial production, employment, and wholesale or retail trade. These things may cause the gross domestic product, or GDP, to decline for a three-month period (a quarter). If the situation continues in the next quarter, most economists will declare that the economy is in a recession.

The effects of a recession are far-reaching. Employment levels fall, discretionary income falls, and overall consumer spending falls, leading to tough times for most companies, which in turn lay off more workers and reduce overall consumer spending further. Few businesses expand and few consumers buy, which lowers the demand for loans. Interest rates usually fall as a result during a recession.

During an economic recovery, the declines slow and then turn to increases. The unemployment rate is gradually reduced as companies begin hiring again. A decreasing unemployment rate leads to an increase in consumer confidence and spending, and the economy begins expanding again.

Why it Matters:

Recessions are a normal part of the business cycle, and so are economic recoveries. Government fiscal and monetary policies often play key roles in making sure recessions do not go on for long and recoveries don't get so out of hand that they spark runaway inflation. These policies involve increasing or decreasing government spending on entitlement programs and public works projects that create jobs, and they may involve changing bank reserve requirements, the interest rate at which the Federal Reserve lends money to banks, or the purchase or sale of Treasury securities.

An economic recovery is the fuel for a bull market, which usually presents a multitude of moneymaking opportunities for investors because stock prices are generally rising across the board. During recessions, analysts spend thousands of hours trying to mathematically determine what will trigger a recovery and how long it will last. Technical analysis is especially prevalent in this effort, although less sophisticated indicators also provide fodder for such predictions. This in turn can sometimes lead to speculation that a recovery (and a bull market) is just around the corner, which can then become a self-fulfilling prophecy.