Early 1980s recession Totally Explained

Everything about The Early 1980s Recession totally explained

The early 1980s recession was a severe recession in the United States which began in July 1981 and ended in November 1982. The primary cause of the recession was a contractionary monetary policy established by the Federal Reserve System to control high inflation. The recession wasn't only unexpected but was the most serious recession since the Great Depression.

Causes of the recession

In the wake of the 1973 oil crisis and the 1979 energy crisis, stagflation began to afflict the economy of the United States. Unemployment had risen from 5.1% in January 1974 to a high of 9.0% in May 1975. Although it had gradually declined to 5.6% by May 1979, unemployment began rising again thereafter. It jumped sharply to 6.9% in April 1980 and to 7.5% in May 1980. A mild recession from January to July 1980 kept unemployment high, but despite economic recovery unemployment remained at historically high levels (about 7.5%) through the end of 1981. Inflation, which had averaged 3.2% annually in the post-war period, had more than doubled after the 1973 oil shock to a 7.7% annual rate. Inflation reached 9.1% in 1975, the highest rate since 1947. Inflation declined to 5.8% the following year, but then edged higher. By 1979, inflation reached a startling 11.3% and in 1980 soared to 13.5%.
Determined to wring inflation out of the economy, Federal Reserve chairman Paul Volcker slowed the rate of growth of the money supply and raised interest rates. The federal funds rate, which was about 11% in 1979, rose to 20% by June 1981. The prime interest rate, at the time a highly important economic measure, eventually reached 21.5% in June 1982.

Economic effects of the recession

The Federal Reserve's extremely tight monetary policy intentionally plunged the American economy into a deep recession.
Employment conditions deteriorated throughout the year. The unemployment rate in the U.S. reached 10.8% in December 1982—higher than at any time in post-war era. Job cutbacks were particularly severe in housing, steel and automobiles. By September 1982, the jobless rate reached 10.8%. Twelve million people were unemployed, an increase of 4.2 million people since July 1981. Banks rushed into real estate lending, speculative lending, and other ventures just as the economy soured.
By mid-1982, the number of bank failures was rising steadily. Bank failures reached a post-depression high of 42 as the recession and high interest rates took their toll. By the end of the year, the Federal Deposit Insurance Corporation (FDIC) had spent $870 million to purchase bad loans in an effort to keep various banks afloat. Congress reacted with a distinctly inappropriate piece of legislation. In July 1982, Congress enacted the Garn-St. Germain Depository Institutions Act of 1982 (Garn-St. Germain), which further deregulated banks as well as deregulating savings and loans. The Garn-St. Germain act authorized banks to begin offering money market deposit accounts in an attempt to encourage deposit in-flows, removed additional statutory restrictions in real estate lending, and relaxed loans-to-one-borrower limits. The legislation encouraged a rapid expansion in real estate lending at a time when the real estate market was collapsing, worsened competition between banks and savings and loans, and encouraged overbuilding of branches.

The S&L crisis

The recession also significantly worsened a crisis in the savings and loan industry.
   In 1980, there were approximately 4,590 state- and federally-chartered savings and loan institutions (S&Ls) with total assets of $616 billion. Beginning in 1979, S&Ls began losing money due to spiraling interest rates. Net S&L income, which totaled $781 million in 1980, fell to a loss of $4.6 billion in 1981 and a loss of $4.1 billion in 1982. Tangible net worth for the entire S&L industry was virtually zero. In financial circles, the FHLBB and FSLIC were called "the doormats of financial regulation."
   Because of its weak enforcement powers, the FHLBB and FSLIC rarely forced S&Ls to correct poor financial practices. The FHLBB relied heavily on its persuasive powers and the states to enforce banking regulations. With only five enforcement lawyers, the FHLBB was in a poor position to enforce the law even had it wanted to.
   As the risk exposure of S&Ls expanded, the economy slid into the recession. Soon, hundreds of S&Ls were insolvent. Between 1980 and 1983, 118 S&Ls with $43 billion in assets failed. The Federal Savings and Loan Insurance Corporation (FSLIC), the federal agency which insured the deposits of S&Ls, spent $3.5 billion to make depositors whole again. The FSLIC pushed mergers as a way to avoid insolvency. From 1980 to 1982, there were 493 voluntary mergers and 259 forced mergers of savings and loans overseen by the agency. Despite these failures and mergers, there were still 415 S&Ls at the end of 1982 that were insolvent.

Political fallout

The recession was nearly a year old before President Ronald Reagan finally admitted on October 18, 1981, that the economy was in a "slight recession".
   The "Reagan recession," coupled with budget cuts (which were enacted in 1981 but began to take effect in 1982), led many voters to believe that Reagan was insensitive to the needs of average citizens. Reagan's approval ratings sank. In January 1983, Reagan's popularity rating fell to 35%—approaching levels experienced by Richard Nixon and Jimmy Carter at their most unpopular moments. Although his approval rating didn't fall as low as Nixon's during Watergate, Reagan's reelection seemed unlikely.
   Pressured to counteract the increased deficit caused by the recession, Reagan agreed to a corporate tax increase in 1982. However, he refused to raise income taxes or cut defense spending. The Tax Equity and Fiscal Responsibility Act of 1982 instituted a three-year, $100 billion tax hike—the largest tax increase since World War II.
   The 1982 mid-term Congressional elections were largely viewed as a referendum on Reagan and his economic policies. The election results proved to be a major setback for Reagan and the Republicans. The Democrats gained 26 House seats, which at the time was the most for the party in any election since the "Watergate year" of 1974. However, the net balance of power in the Senate was unchanged.

Recovery

The mid-term Congressional elections proved to be the nadir of the Reagan presidency.
A combination of deficit spending and the lowering of interest rates slowly led to economic recovery. From a high of 10.8% in December 1982, unemployment gradually improved until it fell to 7.2% on Election Day in 1984. Inflation fell from 10.3% in 1981 to 3.2% in 1983. Corporate earnings rose by 29% in the July-September quarter of 1983, compared with the same period in 1982. Some of the most dramatic improvements came in industries hardest hit by the recession, such as paper and forest products, rubber, airlines, and the auto industry. By November 1984, voter anger at the recession evaporated and Reagan's re-election wasn't in doubt. Reagan was subsequently re-elected by a landslide electoral and popular vote margin in the 1984 presidential election.

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