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Recession, monetary policy affect students and their families

Photo of a woman holding a What does the current financial crisis mean to the average household or the average high school or middle school student? And how is the Fed's monetary policy working to stabilize the economy?

The current recession is already being called "the Great Recession" because it appears to be longer and, by many measures, deeper than any economic downturn since the Great Depression in the 1930s. At 21 months and counting, the current slump is already older than the 16-month slide in 1973–75 and the 11-month recession in 1948–49.

Since the recession began in December 2007, the total number of nonfarm jobs in the United States fell from 138.1 million to 131.2 million by August 2009—a net loss of 6.9 million jobs. That's a 5 percent decline, which is worse than the 3.1 percent drop during the severe 1981–82 recession but not quite as bad as the 5.2 percent decline in 1948–49.

Related Links
Activity for high school students
Katrina's Classroom extension activity on financing higher education
Atlanta Fed speeches

Hitting close to home
In August 2009, 9.7 percent of the labor force was listed as unemployed, and 16.8 percent said they were either unemployed or underemployed. The unemployment rate is approaching the post–Great Depression peak of 10.8 percent reached in November 1982.

For many students, these numbers mean that there is a good chance that someone in their own household or someone they know has been laid off and may be suffering financial difficulties. Summer jobs were hard to find this year; some students have been forced to change their plans for college, and some families have even lost their homes.

Causes and cures
Recessions are a painful part of the economic cycle. They typically stem from the buildup of excesses. Pundits have cited a variety of excesses and issues as factors contributing to the current recession: a substantial buildup in credit throughout the economy, a bubble in the housing market, loose lending practices, regulatory gaps stemming in part from two decades of deregulation, a global savings glut, a huge increase in loan securitization that was not widely understood, and consumers' and financial institutions' increased appetite for risk. (See macroblog and speeches on this Web site for more on the current crisis.)

Policymakers at the Federal Reserve, the U.S. Treasury Department, Congress, and the Federal Deposit Insurance Corp. (FDIC) have responded with a range of measures aimed at stabilizing credit markets, repairing the financial system, supporting the housing market, and rebuilding confidence in the economy. The Fed has focused its efforts on providing liquidity to credit markets, which nearly came to a standstill in September 2008 after several large firms came under heavy pressure from creditors, counterparties, and customers. The Fed used one of its traditional monetary policy tools, open market operations, to lower the federal funds rate target from 5.25 percent in the summer of 2007 all the way to 0 percent–0.25 percent in December 2008.

The Fed also used its existing powers to temporarily extend the terms (duration) and kinds of collateral for its loans to banks and to nonbank markets. It has supported the mortgage markets by purchasing mortgage-backed securities from agencies like Fannie Mae and Freddie Mac. And it has worked to keep longer-term interest rates down by purchasing longer-term Treasury securities.

Signs of recovery
Since these measures began, several signs suggest that the coordinated recovery efforts by the Fed, the Treasury, and the FDIC are having a positive effect. Banks' willingness to lend to each other has improved, spreads on auto loans and credit card loans have narrowed, and mortgage rates have declined. The consensus of economists now projects that the U.S. economy will return to modest growth by the end of 2009 and will continue gradual improvement into 2010.

Still, it will take time for the banking system and the labor markets to recover. In fact, most economists expect a restructuring of the labor market: Some traditional jobs may be in less demand, but new jobs in new areas may open up, many of which will require retraining and higher levels of education. Also, economists anticipate that households will need to rebuild their savings, and for many that will mean curtailing spending, especially credit-driven spending. Students who were used to spending freely may have to readjust their habits and begin preparing for their financial futures. Education will be more important than ever. (See the Katrina's Classroom extension activity on financing options for higher education.)

By Gary Tapp, economic education director, Public Affairs