What Causes Recessions?

Mainstream economics attributes recessions to various factors including external shocks (like oil price spikes), business cycle fluctuations driven by changes in investment and consumption, monetary policy that becomes too tight, financial crises that disrupt credit markets, and supply-side disruptions. The consensus view emphasizes that recessions can stem from both demand-side factors (reduced consumer spending, business investment) and supply-side issues (productivity shocks, resource constraints). Most mainstream models treat recessions as periodic corrections or adjustments that markets eventually resolve through price and wage flexibility, though they acknowledge that adjustment can be slow and painful.

MMT identifies the primary cause of recessions as insufficient aggregate demand, which stems from the government spending too little relative to the economy's savings desires and external sector position. As Mosler explains, since government deficits equal non-government surpluses by accounting identity, when the private sector wants to save more than it invests, and the external sector runs a surplus (trade deficit for the domestic economy), only government deficit spending can provide the financial assets needed to satisfy these savings desires while maintaining full employment. Recessions occur when fiscal policy is too restrictive - when governments cut spending or raise taxes during periods when the non-government sectors are trying to increase their financial asset holdings. Wray and Mitchell emphasize that unemployment during recessions represents unused real resources that could be employed if the currency-issuing government simply spent more to purchase these idle resources. The automatic stabilizers (unemployment insurance, reduced tax collections) provide some counter-cyclical support, but they're often insufficient because they're not designed to achieve full employment, only to provide a social safety net.