by Alan Cordova

Steven in Boston wants to know:

It is easy to see how the economy can fall into a recession, but — looking at past recessions — how does the economy ever get out of them? Why doesn't it stay in a contracted state forever?

This is fundamentally a question of macroeconomics, clearly one that has yet to be answered definitively. The following are a three frameworks that Ben Bernanke, Hank Paulson and Tim Geithner (as well as a horde of academics) are undoubtedly discussing.

 

Export-led recovery: One way nations get themselves out of a recession is by getting other countries to buy lots of good from them. One strategy for doing that is to let the value of the home currency fall. If the U.S. dollar is worth less compared to the euro, yen or pound sterling, then U.S. goods become cheaper for buyers in Europe, Japan or the U.K.

The U.S. affects the value of the dollar in a couple of ways — primarily through tweaking the interest rate and through selling Treasury bills. Cheaper interest makes dollars worth less. Selling Treasuries increases the demand for dollars, because it parks lots of dollars in the hands of people who buy the T-bills. In terms of increasing exports, the lower interest is far more powerful.

With a cheaper dollar, an apple grower in Washington State can expect more customers from overseas. To meet this additional demand, the apple-grower will need to hire additional workers, who will, in turn spend their new salaries on all the usual consumer goods and services that have driven the U.S. economy.

Investment-led recovery: This one also depends on the dollar remaining relatively cheap. The idea is that overseas businesses will invest in the United States, buying companies and opening factories (think of the constellation of foreign-owned auto plants in the South). If the dollar is weaker than their national currency, they can produce their goods and services at a lower cost than back home.

As the U.S. economy grows, the value of the dollar grows, too — increasing the value of their investment. A Japanese investor can sell that $100 million factory, and expect to trade the dollars in for more yen back home.

(The new factories and operations increase the GDP, or gross domestic product, which measures the value of all goods and services produced within a country's borders regardless of company ownership. GDP is the number economists use to measure the economy's health. Even in a foreign-owned factory, the jobs that are created are American, and the money earned by workers here will largely be spent within the country.

Consumer-led recovery: In this type of recovery, the government borrows money to give to American consumers with the belief that they will spend it on American goods and services. This was the logic behind the February stimulus bill, in which the government provided checks directly to households. Unfortunately, rather than taking the money and immediately spending it, many consumers put the money into their bank accounts or used it to make credit card or loan payments. Nevertheless, because consumer spending accounts for over 70 percent of American economic activity, policymakers continue to consider this as part of a fix.