What Factors Led to the Slowdown of the Us Economy in 2001? Have Matters Improved in 2004? Evaluate the Risks of a Downturn in 2005 If Oil Prices Remain over $40 a Barrel. What Are the Effects on the European and Asian Economies?

The United States economy.

The economy of the United States has long been one of the most, if not the most, influential capitalist economy in the modern world. Evidence of this can be seen everywhere in modern life: business news reports on television always start with the US markets, the newspapers always have the latest exchange rates between the Pound and the Dollar, the Euro and the Dollar, the Yen and the Dollar. This is why it is interesting to find out more about how this 'alpha-economy' functions, how it is affected by commodities such as oil and exactly how it can influence the world economies. By looking back at how the economy performed in the last decade and pinpointing and analysing the causes of the economy performing the way it did, we can get an idea of how the US economy will perform in the near future.

What factors led to the slowdown of the US economy in 2001?

To begin with, we should look at one of the most important economic events of the past decade, namely the slowdown of the United States' economic growth in 2001 and the factors that led to this slowdown.

First of all it must be said that the slowdown that occurred in the US economy in 2001 was not a result of solely the terrorist attacks of September 11th as many people seem to think, but was a result of problems with much deeper economic roots. In order to get a clearer picture one must step back and attempt to see this event in context: what happened earlier that could have resulted in this slowdown? We should thus take a closer look at the economies' performance prior to the slowdown.

After the recessions of the early 1990s the US economy started to grow. This is highlighted, for example by the increases in confidence of consumers during the period following the slump, as show in the table below:

What usually accompanies a rise in consumer confidence is a decrease in the average propensity to save, APS (or increase in average propensity to consume, APC). Put in simple terms, households react by saving less and spending more money. This sets off a kind of 'chain reaction', where this extra spending increases demand for products and services. To meet this increase of demand firms start producing more goods. A consequence of this is that ultimately the firms' profits increase, which in turn means more dividends for their shareholders, income increases and a possibility of expansion. Thus this cycle continues and the economy grows.

The above is a very simplified explanation of what goes on when consumer confidence is increased, as, in actual fact, there are many more consequences. One major factor is investment. As firms post greater profits, they see an opportunity to earn more money if the business expands, but in order to expand, businesses need money and that money comes from investment. Money is invested in businesses in the hope that consumer confidence will not fade and that demand for various products and services will increase gradually.

This is what started happening in the United States from 1993 onwards, facilitated by the strong rapid growth in the telecommunications industry. The initial profits posted by companies in the so-called 'dot-com' sector were high and above all expectations thus a belief that further investments would result in even higher profits ensued. Their beliefs were not without grounds as the rate of profit increase during this expansion of the US economy was a staggering 88.7%. But in the late 1990s investment increased way beyond the growth in profit on the basis of this high optimism and speculation by businesses. Thus this 'bubble' that was building up over a number of years finally started to 'deflate' in late 2000.

This was one of the causes of the so-called 'slowdown' of the US economy in 2001, but of course, not the only one.

In the late 1990s, American companies, driven by the increasing costs of operations, firms began looking more and more at various solutions designed to minimize the high costs of production, which included the very high wages they were paying their workers. One of the remedies was outsourcing the production of goods. In this way they would not have to pay the high wages that the American worker of the late 1990s-early 2000 required. Unfortunately, what was good for the companies in the short-term, had quite a significant negative impact on the economy as lots of skilled workers in the manufacturing sector lost their jobs, for example 141,000 in the first 8 months of 2001. Job cuts always have a great impact on consumer confidence levels whatever reason they were made for, even for maximizing profits. The consumers see this as a sign of bad times ahead, thus they tend to spend less money, slowly sending the economy down a spiral.

The trade deficit of the economy increased drastically during the expansions of the 1990s, as while exports rose 88.9%, imports increased by 254%, which means that, on the whole more money left the economy than was received, and that is never a good sign.

All the above factors contributed greatly to the slowdown of the economy. As can be seen from the table above, after 2000 the Consumer Confidence index dropped significantly; people became worried about the future and started saving more, therefore the Average Propensity to Save increased, as a larger proportion of people's incomes was saved rather than spent. The fall in tax revenues and the slowing rate of growth of wages since the second quarter of 2001 confirm the slowdown of the U.S. economy.

Of course we cannot neglect to analyze the effects of oil prices on the US economy. According to Nouriel Roubini (NYU) and Brad Setser (University College, Oxford) in their "The Effects of the Recent Oil Price Shock on the U.S. and Global Economy", oil price shocks have significant effects on economies of the world. For example the threefold increase in the price of oil after the Yom Kippur war of 1973 and the following oil embargo, can be probably be solely accused of instigating the 1974-1975 US recession. Similarly, the global recession of 1980-1981 can be traced to the oil price shock following the Iranian revolution of 1979.

In more technical terms, Mr. Roubini and Mr. Setser state that "oil price shocks have a stagflationary effect on the macroeconomy of an oil importing country" in other words, they slow down the rate of growth of an economy and lead to an increase in prices as companies adjust them to cover for increased production costs. They compare oil price hikes to "taxes on consumption", the profits of which (in a net oil importer such as the US) go to the major oil producers.

The magnitude

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