Editing Recession (section)

===Balance sheet recession===

{{Main|Balance sheet recession}}
Excessive levels of indebtedness or the bursting of a real estate or financial asset price bubble can cause what is called a "balance sheet recession". This occurs when large numbers of consumers or corporations pay down debt (i.e., save) rather than spend or invest, which slows the economy.<ref name="Koo2011" /> The term [[balance sheet]] derives from an accounting identity that holds that assets must always equal the sum of liabilities plus equity.<ref name="Jupe2014">{{cite book |last1=Jupe |first1=Robert |editor1-last=Michie |editor1-first=Jonathan |title=Reader's Guide to the Social Sciences |year=2014 |publisher=Routledge |isbn=978-1-135-93226-8 |page=11 |chapter-url=https://books.google.com/books?id=ip_IAgAAQBAJ&pg=PA11 |chapter=Accounting, balance sheet}}</ref> If asset prices fall below the value of the debt incurred to purchase them, then the equity must be negative, meaning the consumer or corporation is insolvent. Economist [[Paul Krugman]] wrote in 2014 that "the best working hypothesis seems to be that the [[subprime mortgage crisis|financial crisis]] was only one manifestation of a broader problem of excessive debt—that it was a so-called "balance sheet recession". In Krugman's view, such crises require debt reduction strategies combined with higher government spending to offset declines from the [[private sector]] as it pays down its debt.<ref>{{cite magazine|url=http://www.nybooks.com/articles/archives/2014/jul/10/geithner-does-he-pass-test/|title=Does He Pass the Test? 'Stress Test: Reflections on Financial Crises' by Timothy Geithner |first=Paul|last=Krugman|access-date=26 November 2018|archive-date=5 November 2015|archive-url=https://web.archive.org/web/20151105050812/http://www.nybooks.com/articles/archives/2014/jul/10/geithner-does-he-pass-test/|url-status=live|magazine=New York Review of Books|date=10 July 2014}}</ref>

For example, economist Richard Koo wrote that Japan's "Great Recession" that began in 1990 was a "balance sheet recession". It was triggered by a collapse in land and stock prices, which caused Japanese firms to have [[negative equity]], meaning their assets were worth less than their liabilities. Despite zero [[interest rate]]s and expansion of the [[money supply]] to encourage borrowing, Japanese corporations in aggregate opted to pay down their debts from their own business earnings rather than borrow to invest as firms typically do. Corporate investment, a key demand component of GDP, fell enormously (22% of GDP) between 1990 and its peak decline in 2003. Japanese firms overall became net savers after 1998, as opposed to borrowers. Koo argues that it was massive fiscal stimulus (borrowing and spending by the government) that offset this decline and enabled Japan to maintain its level of GDP. In his view, this avoided a U.S. type [[Great Depression]], in which U.S. GDP fell by 46%. He argued that monetary policy was ineffective because there was limited demand for funds while firms paid down their liabilities. In a balance sheet recession, GDP declines by the amount of debt repayment and un-borrowed individual savings, leaving government stimulus spending as the primary remedy.<ref name="Koo 2009"/><ref name="Koo2011" /><ref>{{cite web |first=Gregory|last=White |url=http://www.businessinsider.com/richard-koo-recession-2010-4#-1 |title=Presentation by Richard Koo – The Age of Balance Sheet Recessions |work=Business Insider |date=14 April 2010 |access-date=29 January 2011 |archive-date=5 May 2021 |archive-url=https://web.archive.org/web/20210505150640/https://www.businessinsider.com/richard-koo-recession-2010-4#-1 |url-status=live }}</ref>

Krugman discussed the balance sheet recession concept in 2010, agreeing with Koo's situation assessment and view that sustained [[deficit spending]] when faced with a balance sheet recession would be appropriate. However, Krugman argued that monetary policy could also affect savings behavior, as inflation or credible promises of future inflation (generating negative real interest rates) would encourage less savings. In other words, people would tend to spend more rather than save if they believe inflation is on the horizon. In more technical terms, Krugman argues that the private sector savings curve is elastic even during a balance sheet recession (responsive to changes in real interest rates), disagreeing with Koo's view that it is inelastic (non-responsive to changes in real interest rates).<ref>{{cite web|first=Paul|last=Krugman|url=https://krugman.blogs.nytimes.com/2010/08/17/notes-on-koo-wonkish/|title=Notes On Koo (Wonkish)|date=17 August 2010|access-date=26 November 2018|archive-date=15 April 2021|archive-url=https://web.archive.org/web/20210415215705/https://krugman.blogs.nytimes.com/2010/08/17/notes-on-koo-wonkish/|url-status=live|work=The New York Times}}</ref><ref>{{cite web|url=https://voxeu.org/article/debt-deleveraging-and-liquidity-trap-new-model|title=Debt, deleveraging, and the liquidity trap|first=Paul|last=Krugman|date=18 November 2010|access-date=26 November 2018|archive-date=21 April 2021|archive-url=https://web.archive.org/web/20210421110415/https://voxeu.org/article/debt-deleveraging-and-liquidity-trap-new-model|url-status=live|work=Voxeu.org)}}</ref>

A July 2012 survey of balance sheet recession research reported that consumer demand and employment are affected by household leverage levels. Both durable and non-durable goods consumption declined as households moved from low to high leverage with the decline in property values experienced during the subprime mortgage crisis. Further, reduced consumption due to higher household leverage can account for a significant decline in employment levels. Policies that help reduce mortgage debt or household leverage could therefore have stimulative effects (Smith & Johnson, 2012).