What Happens During Recessions, Crunches and Busts?

Contributor Notes

We provide a comprehensive empirical characterization of the linkages between key macroeconomic and financial variables around business and financial cycles for 21 OECD countries over the period 1960–2007. In particular, we analyze the implications of 122 recessions, 112 (28) credit contraction (crunch) episodes, 114 (28) episodes of house price declines (busts), 234 (58) episodes of equity price declines (busts) and their various overlaps in these countries over the sample period. Our results indicate that interactions between macroeconomic and financial variables can play major roles in determining the severity and duration of recessions. Specifically, we find evidence that recessions associated with credit crunches and house price busts tend to be deeper and longer than other recessions. JEL Classification Numbers: E32; E44; E51; F42

Abstract

We provide a comprehensive empirical characterization of the linkages between key macroeconomic and financial variables around business and financial cycles for 21 OECD countries over the period 1960–2007. In particular, we analyze the implications of 122 recessions, 112 (28) credit contraction (crunch) episodes, 114 (28) episodes of house price declines (busts), 234 (58) episodes of equity price declines (busts) and their various overlaps in these countries over the sample period. Our results indicate that interactions between macroeconomic and financial variables can play major roles in determining the severity and duration of recessions. Specifically, we find evidence that recessions associated with credit crunches and house price busts tend to be deeper and longer than other recessions. JEL Classification Numbers: E32; E44; E51; F42

“… recessions that follow swings in asset prices are not necessarily longer, deeper, and associated with a greater fall in output and investment than other recessions…”

Roger W. Ferguson, Vice Chairman of the Federal Reserve Board, January 2005

“If we do end up dating the recession as beginning at the end of last year, it could be a very long recession.”

Martin Feldstein, Member of the NBER Business Cycle Dating Committee, August 2008

I. Introduction

The financial turmoil that started in the United States last year has now spread to a number of advanced and emerging countries and transformed into the most severe global financial crisis since the Great Depression. This has led to an intensive debate about how much the financial crisis will impact the broader economies. There are already indications that the spillovers from the financial crisis to the real economy will not be mild—in fact, activity in the United States and several other advanced economies has been contracting in recent months.

These developments have highlighted a number of questions about the linkages between the real economy and the financial sector during recessions. Two specific questions that have often been raised in the context of this debate are: How do macroeconomic and financial variables behave around recessions, credit crunches and asset (house and equity) price busts? And are recessions associated with credit crunches and asset price busts different than other recessions? In order to address these questions, we provide a comprehensive empirical characterization of the linkages between key macroeconomic and financial variables around business and financial cycles for 21 OECD countries over the 1960-2007 period.

We first identify turning points in these variables using standard business cycle dating methods. We document 122 recessions, 112 credit contractions, 114 house price declines, and 234 equity price declines for these countries over the sample period. When recessions, credit contractions, house price and equity price declines fall into the top quartiles of all recessions, contractions and declines, we define them as severe recessions, credit crunches, house price busts and equity price busts, respectively. We then analyze the characteristics of these events—in terms of their duration and severity—and the behavior of major macroeconomic and financial variables around the various cycles.

With respect to the first question, we find that the typical recession lasts almost 4 quarters and is associated with an output drop (decline from peak to trough) of roughly 2 percent. Severe recessions are, by construction, much more costly, with a median decline of about 5 percent, and last a quarter longer. While typical recessions tend to result in a cumulative loss of around 3 percent, severe ones cost three times more. As one would expect, most macroeconomic and financial variables exhibit procyclical behavior during recessions. In addition, recessions are characterized by sharp declines in (residential) investment, industrial production, imports, and housing and equity prices, modest declines in consumption and exports, and some decrease in employment rates. Two key policy related variables—short-term interest rates and fiscal expenditures—often behave countercyclical during recessions.

For some observers, the global nature of the current crisis has been unprecedented, as several advanced economies have simultaneously experienced difficulties in their credit markets as well as declines in their house and equity prices. However, these recent phenomena are not unusual because historically recessions, crunches and busts often occur at the same time across countries. Indeed, recessions in many advanced countries were bunched in four periods over the past 40 years—the mid-70s, the early 80s, the early 90s and the early-2000s—and often coincided with global shocks. Just as many countries experience synchronized recessions, countries also go through simultaneous episodes of credit contractions. Moreover, declines in house and equity prices tend to occur at the same time.

Our findings indicate that the episodes of credit crunches, house price and equity price busts last much longer than recessions do. For example, the average duration of a credit crunch is around 10 quarters while an asset price bust is usually even longer, with an average duration of 18 (12) quarters in the case of house (equity) price busts. The dynamics of the main components of domestic absorption around these events are similar to those observed during recessions. A much larger decline in the growth rate of investment compared with that of consumption is a feature of both recessions as well as credit crunches and house price busts. In particular, episodes of credit crunch and house price bust are accompanied with large declines in residential investment. There is also evidence that credit crunches and house price busts are more costly than equity price busts, as equity price busts are less consistently associated with real sector outcomes.

For the second question, we document the coincidence of recessions with credit crunches or asset price busts. In about one out of six recessions, there is also a credit crunch underway and, in about one out of four recessions, also a house price bust. Equity price busts overlap for about one-third of recession episodes. A recession, if one occurs, can start as late as four to five quarters after the onset of a credit crunch or an asset bust.

In terms of duration and severity, we find that recessions associated with housing busts and credit crunches are both deeper and longer-lasting than other recessions are. Differences in total output loss between events with severe crunches and busts and those without typically amount to one percentage point, while the duration is more than one quarter longer in case of a housing bust. In terms of the behavior of key macroeconomic and financial variables, we find that residential investment tends to fall more sharply in recessions with housing busts and in those with credit crunches than in other recessions. Unemployment rates increase notably more in recessions with housing busts.

In addition to our event study of interactions among various macroeconomic and financial variables during recessions accompanied with (or without) credit crunches or asset price busts, we also conduct a more formal analysis of the depth of recessions and the special roles played by changes in financial market conditions during these episodes. In particular, we employ a basic regression framework to examine how the amplitude of a recession is associated with changes in financial variables during recessions. Our results suggest that the changes in house prices tend to be the financial variable most robustly associated with the depth of recessions. Besides by its duration, the extent of decline in output is most influenced by the state of the economy at the onset of the recession.

Our study contributes to a large body of research analyzing the roles played by financial variables in explaining fluctuations in economic activity. Financial and macroeconomic variables closely interact through wealth and substitution effects, and through the impact they have on the balance sheets of firms and households (see, for instance, Blanchard and Fischer, 1989; and Obstfeld and Rogoff, 1999). In particular, asset prices can, by affecting household wealth, influence consumption, and by altering a firm’s net worth and the market value of the capital stock relative to its replacement value, influence investment. Perhaps more importantly, the interactions between the financial sector and the real economy can be amplified through the financial accelerator and related mechanisms. According to these mechanisms, an increase in asset prices improves a firm’s (or household’s) net worth, enhancing its capacities to borrow, invest and spend. This process can in turn lead to further increases in asset prices and have general equilibrium effects.2

Various empirical studies—both macro- and microeconomic—have been able to provide evidence for these channels.3 For example, there is a large empirical literature analyzing the dynamics of business cycles, asset price fluctuations and credit cycles (Bernanke and Gertler, 1989; Borio, Furfine and Lowe, 2001). This literature, however, mainly analyzes the general procyclicality of financial and macroeconomic variables, and less so how interactions between financial and real economic variables vary during recessions, which is our focus.

We also contribute to a branch of the large literature on business cycles which aims to identify the turning points in macroeconomic and financial variables using various methodologies. The classical methodology of dating business cycles we use here finds its roots in the pioneering work of Burns and Mitchell (1946) and has been widely used over the years (Harding and Pagan, 2006). Morsink, Helbling, and Tokarick (2002), for example, employ this methodology to analyze the main features of recessions and recoveries in a number of OECD countries. Fewer studies have conducted cross-country analyses of cycles in asset prices identified by this method.4 One example is Helbling and Terrones (2003) which examines the implications of asset price booms and busts in a large set of industrial countries and conclude that house price busts are typically more costly than equity price busts are.

Although the roles played by financial variables in business cycles have thus received much attention from various theoretical and empirical perspectives, most of these studies have considered the topics of business cycle, credit and asset prices independently (or in isolation). Furthermore, the links between real and financial variables during recessions have yet to be analyzed using a comprehensive dataset of a large number of countries over a long period of time. Besides analysis that was limited in number of cases and some other, “case-type” studies of individual episodes, or studies that focused specifically on the behavior of real and financial variables surrounding financial crises, notably Reinhart and Rogoff (2008), to the best of our knowledge, there is no comprehensive empirical analysis of these links.5

Our paper thus fills three gaps in the literature. First, we examine the implications of episodes of recessions, credit crunches, house and equity price busts for a large set of macroeconomic and financial variables for a sizeable number of countries over a long period of time. Second, our study is the first detailed, cross-country empirical analysis addressing the implications of recessions when they coincide with certain types of financial market difficulties, including credit crunches, house price busts and equity price busts. Third, we provide some preliminary evidence suggesting that the change in house prices during recessions appears to be an important factor influencing the cost of recessions.

The paper is structured as follows. In section II, we briefly present the data and methodology we use. Next, we examine the basic characteristics of recessions in Section III. Then, we consider how the key macroeconomic and financial variables behave around the episodes of credit contractions (and crunches) and asset price declines (and busts) in Section IV. We study the implications of recessions associated with crunches and asset price busts in Section V. In Section VI, we briefly analyze the outcomes of recessions accompanied with large increases in oil prices. This is followed by a short discussion of the changes in policy variables during various episodes of recessions, crunches and busts in Section VII. Section VIII presents a more formal analysis of the roles played by financial factors in determining the cost of recessions using some simple regression models. Section IX concludes.

II. Database and Methodology

A. Database

We construct a comprehensive database of macroeconomic and financial variables for 21 OECD countries over the period 1960:1-2007:4, mostly from the IMF International Financial Statistics (IFS) and OECD Analytical Databases.6 We focus our analysis on the following macroeconomic variables: output, consumption, investment, residential investment, non-residential investment, industrial production, exports, imports, net exports, current account balance, and the unemployment and inflation rate. The quarterly time series of macroeconomic variables are seasonally adjusted, whenever necessary, and in constant prices.

The financial variables we consider are credit, house prices and equity prices. Credit series are obtained from the IFS and defined as claims on the private sector by deposit money banks. The main source for house prices is the Bank for International Settlements (BIS). Equity price indices are also from the IFS. All financial variables are converted into real terms by deflating them by the respective consumer price index (CPI).

The “policy” variables we focus on are government consumption, as a proxy for fiscal policy, and short-term interest rates, as a proxy for monetary policy. The series for government consumption are obtained from the OECD Analytical Database. The short-term interest rates are from the IFS, Haver Analytics and Datastream. We consider the short-term interest rates both in nominal and real terms, with the nominal rates deflated using the CPI to arrive at the real rates. Government consumption is also deflated using the CPI. We list the detailed sources and definitions of each of these variables in Appendix I.

B. Methodology

Much research has been devoted to the definition and measurement of business cycles (Harding and Pagan, 2006). Our study is based on the “classical” definition of a business cycle mainly because of its simplicity, but also because it constitutes the guiding principle of the National Bureau of Economic Research (NBER) in determining the turning points of U.S. business cycles. The definition itself goes back to the pioneering work of Burns and Mitchell (1946) who laid the methodological foundation for the analysis of business cycles in the United States.

In particular, they define a cycle to “consist[s] of expansions occurring at about the same time in many economic activities, followed by similar general recessions, contractions, and revivals which merge into the expansion phase of the next cycle; this sequence of changes is recurrent but not periodic; in duration, business cycles vary from more than one year to ten or twelve years.” Following the spirit of this broad characterization of a business cycle, the NBER (2001) defines a recession as “a significant decline in activity spread across the economy, lasting more than a few months, visible in industrial production, employment, real income, and wholesale-retail trade. A recession begins just after the economy reaches a peak of activity and ends as the economy reaches its trough.”

The classical methodology focuses on changes in the level of economic activity to identify business cycles. As an alternative methodology, one can consider how economic activity fluctuates around a trend by employing a method that extracts this trend in activity and then identify a “growth cycle” as a deviation from this trend (Stock and Watson, 1999). The classical methodology we employ, however, is particularly useful for our purpose since we are interested in business cycles in OECD countries where growth rates have been relatively low. This implies that growth recessions are small in size and can be frequent, while level recessions are more pronounced, but fewer (Morsink, Helbling and Tokarick, 2002). The classical methodology also allows us to focus on a well-defined set of cyclical turning points rather than having to consider how the characterization of business cycles depends on the specific detrending method used.7 The turning points identified by our methodology are also robust to the inclusion of newly available data, whereas new data can affect the estimated trend and thus the identification of a growth cycle.

The methodology we use determines the peaks and troughs of any given series by first searching for maxima and minima over a given period of time. It then selects pairs of adjacent, locally absolute maxima and minima that meet certain censoring rules requiring a certain minimal duration of cycles and phases. In particular, we employ the algorithm introduced by Harding and Pagan (2002a), which extends the so called BB algorithm developed by Bry and Boschan (1971), to identify the cyclical turning points in the log-level of a series.8 A complete cycle goes from one peak to the next peak with its two phases, the contraction phase (from peak to trough) and the expansion phase (from trough to peak). The algorithm requires that the minimum duration of the complete cycle and each phase must be at least five and two quarters, respectively.9 Specifically, a peak is reached in a quarterly series yt at time t if:

{[(ytyt2)>0,(ytyt1)>0] and [(yt+2yt)<0,(yt+1yt)<0]}

Similarly, a cyclical trough is reached at time t if:

{[(ytyt2)<0,(ytyt1)<0] and [(yt+2yt)>0,(yt+1yt)>0]}

We employ this algorithm to identify cycles in a variety of macroeconomic and financial variables. Our main macroeconomic variable is output (GDP) which provides the broadest measure of economic activity. Besides output, we also look at cycles in a number of macroeconomic variables, including consumption and investment. In terms of financial variables, we are interested in cycles in three variables: credit, house prices and equity prices.

The main characteristics of cyclical phases are their duration and amplitude (Harding and Pagan, 2002a). Since we are mainly interested in examining contractions, we define these characteristics for contractions only. The duration of a contraction, Dc, is the number of quarters, k, between a peak and the next trough. The amplitude of a contraction, Ac, measures the change in y from a peak (y0) to the next trough (yk), i.e., Ac = yk– y0. For output, we also consider another widely used measure, the cumulative loss. This measure combines information about the duration and amplitude of a phase to proxy the overall cost of a cyclical contraction, likely of particular interest to policy makers. The cumulative loss, Fc, during a contraction, with duration k, is then defined as:

Fc=j=1k(yjy0)Ac2.

We further classify recessions based on the extent of decline in output. In particular, we call recessions mild or severe if the peak-to-trough output drop falls into the bottom or top quartile of all output drops during recessions, respectively. Likewise, declines in asset prices and credit contractions are distinguished according to their severity. An equity (or house) price bust is defined as a peak-to-trough decline which falls into the top quartile of all equity (or house) price declines (Helbling and Terrones, 2003). Similarly, a credit crunch is defined as a peak-to-trough contraction in credit which falls into the top quartile of all credit contractions.10 We identify 122 recessions in output (30 of which are severe), 112 contractions (28 crunches) in credit, 114 declines (28 busts) in house prices, 234 declines (58 busts) in equity prices.

In line with the way we date events in general, we next use a simple “dating” rule regarding whether or not a specific recession is associated with a credit crunch or asset price bust. In particular, if a recession episode starts at the same time or after the beginning of an ongoing credit crunch or asset price bust, we consider the recession to be associated with the respective credit crunch or asset price bust. This rule, by definition, basically describes a “timing” association (or coincidence) between the two events but does not imply a causal link.11

Among these events, there is a considerable overlap, since there are 18, 34 and 45 recession episodes associated with credit crunches, house price busts and equity price busts, respectively (Figure 1 provides the Venn diagram of the associations of recessions, crunches and busts).12 In other words, in about one out of six recessions, there is also a credit crunch underway and in about one out of four recessions, also a house price bust. Equity price busts overlap for about one-third of recession episodes.13

Figure 1.
Figure 1.

Associations between Recessions, Crunches and Busts

(number of events in each event category)

Citation: IMF Working Papers 2008, 274; 10.5089/9781451871326.001.A001

Notes: The rectangle shows the distribution of 122 recession episodes in the sample into those associated with crunches and busts (76) and those associated with none (46). Out of 122 recessions, 18 are associated with credit crunches, 34 are with house price busts, and 45 are with equity price busts. 46 recessions are not associated with either a crunch or bust episode.

Our algorithm closely replicates the dates of U.S. business cycles as determined by the NBER Business Cycle Dating Committee. According to the NBER, the United States has experienced 7 recessions over the 1960-2007 period and our algorithm provides exact matches for 4 out of these 7 peak and trough dates and is only a quarter early in dating the remaining peaks and troughs. The differences between our dates and the NBER ones stem from the fact that the NBER uses monthly data for various activity indicators (including industrial production, employment, personal income net of transfer payments, and the volume of sales of the manufacturing and wholesale retail sectors), whereas we solely employ quarterly series on output to identify the cyclical turning points. Nevertheless, the main features of business cycles based on the turning points we document are quite similar to those of the NBER. The average duration of U.S. business cycles based on our turning points, for example, is the same as that reported by the NBER. In addition, the average amplitude of cycles derived from our methodology is very close to that of the NBER cycles.14

III. What Happens During Recessions?

In this section, we first examine a set of basic stylized facts about recessions, including their duration, amplitude, and cumulative output loss, and how these features vary across countries. We then document the changes in our main macroeconomic and financial variables during recessions. This is followed by an analysis of the temporal behavior of these same variables around recessions. Last, we analyze the synchronization of recessions across countries.

A. Basic Features of Recessions: Duration and Cost

Table 1A presents the main characteristics of recessions for each country in our sample. Throughout the paper, we most often focus on medians because they are less affected by the presence of outliers in our sample. Wherever relevant, however, we also refer to means. A typical OECD country experienced about five recessions over the 1960-2007 period. There is no apparent pattern across countries in the number of recessions, but some countries do stand out. For example, Canada, Ireland, Japan, Norway and Sweden witnessed only three recessions during this period, while Italy and Switzerland had 9 recessions, and New Zealand 12, the most.15 A typical recession lasts about 4 quarters (one year) with relatively small variation across countries—the shortest recession is 2 quarters and the longest 13 quarters. Roughly one-third of all recessions are short with only 2 quarters. The proportion of time spent in recession, defined as the fraction of quarters the economy is in recession over the full sample period, is typically around 10 percent.16

Table 1.A.

Recessions: Summary Statistics

article image
Notes: Duration is the number of quarters between a peak and the next trough of a recession. Proportion of time in recession refers to the ratio of the number of quarters in which the economy is in recession over the full sample period. Amplitude is the percent change in output from a peak to the next trough of a recession. Cumulative loss combines information about the duration and amplitude to measure the overall cost of a recession and is expressed in percent. Severe recessions are those in which the peak-to-trough decline in output is in the top 25 percent of all recession-related output declines. Country-specific data are means. Country-group data are means/medians.

In addition to duration, we describe the severity of a recession using two other metrics. The median (average) decline in output from peak to trough, the recession’s amplitude, is about 1.9 (2.7) percent. It ranges from about 1 percent for the typical recession in Austria, Belgium, Ireland and Spain to more than 6 percent for those in Greece and New Zealand. The cumulative loss of a typical (median) recession is about 3 percent, but the average loss is about 6.4 percent since the distribution is skewed to the right (there is on average a small positive correlation (0.34) between duration and amplitude). This also shows that the overall loss can differ quite a bit from amplitude as durations vary. Country examples further illustrate this difference. For example, while the median amplitude of recessions in Finland and Sweden are not as large as those in Greece and New Zealand, recessions in Finland and Sweden have very large cumulative output losses (23 and 16 percent, respectively) since their recessions are long.

As mentioned, a recession is classified as a severe one when the peak-to-trough decline in output is in the top-quartile of all output declines during recessions, which means a peak-to-trough output decline below -3.2 percent. While many OECD countries, including Austria, Belgium, France, Ireland, Norway, Spain, and the United States, did not experience a severe recession in the sample period, most recessions in Greece and New Zealand fell in this category. The 30 such recessions we document are typically five quarters long, more than a quarter longer than the average recession. They are, by construction, much more costly than other recessions with a median decline of about 5 percent, almost three times that of other recessions, and have a cumulative loss of about 10 percent, five times that of the other recessions. An extremely severe recession, in which the peak-to-trough decline in output exceeds 10 percent, is usually called a depression, of which there are 5 in our sample. The last such depression episode took place in Finland in the early 1990s with an output decline of 14 percent.17

As shown in Figure 2, most recessions lasted 4 quarters or less, and most of these were also mild to moderate in depth, i.e., less than a 3.2 percent output decline.18 Of the severe recessions in our sample, only 40 percent were long, i.e., lasted more than 5 quarters. There is also a pattern of recessions becoming shorter and milder over time, especially after the mid-1980s. In particular, the amplitude of a typical recession fell from 2.6 percent in 1973-1985 to 1.4 percent in 1986-2007. These patterns are in line with recent empirical work documenting a trend decline in output volatility in industrial countries, the so called “Great Moderation” phenomenon.19

Figure 2.
Figure 2.

Recessions: Duration and Amplitude

(share of total sample, percent)

Citation: IMF Working Papers 2008, 274; 10.5089/9781451871326.001.A001

Notes: Share of total number of recessions falling in particular categories. Duration is the number of quarters from a peak to the next trough of a recession. Amplitude is the percent change in output from a peak to the next trough of a recession.

B. Changes in Macroeconomic and Financial Variables

We next examine how the main macroeconomic and financial variables typically vary during a recession. Table 1B presents the peak-to-trough changes for these variables for all, severe, and other recessions, which are those not in the group of severe ones. We find the expected patterns in recessions in the sense that most macroeconomic variables exhibit procyclical behavior. Not surprisingly, differences between severe and non-severe (other) recessions are often statistically significant in terms of their durations, amplitudes and cumulative output losses. In a severe recession, consumption typically drops by more than 1 percent, compared to almost no change in other recessions. The importance of investment for explaining the business cycle has been stressed in the literature for a long time. Indeed, both residential and total investment tend to decline by double digits in severe recessions, compared to a drop of about 4 percent in other recessions.

Table 1.B.

Recessions: Summary Statistics

(Percent change unless otherwise indicated)

article image
Notes: Severe recessions are those in which the peak-to-trough decline in output is in the top 25 percent of all recession-related output declines. Other recessions refer to episodes that are not severe recessions. In each cell, the mean (median) change in the respective variable from peak to trough of recessions is reported, unless otherwise indicated. The symbols *, **, and *** indicate that the difference between means (medians) of severe recessions and other recessions is significant at the 10 percent, 5 percent, and 1 percent levels, respectively.

Number of quarters.

Change in levels.

Recessions often also overlap with declines in international trade. Exports drop more in severe recessions compared to other recessions (and significantly so). As expected, imports fall, by six times more than exports in a typical recession and by close to 10 percent in severe recessions (statistical significantly more so than in other recessions). While both net exports and the current account balance register improvements during recessions, the changes are not statistical significantly different across the types of recessions.

The fall in industrial production tracks closely the drop in investment in all types of recessions and is larger than that of output. Recessions often coincide with an increase in the unemployment rate (in 90 percent of cases). The unemployment rate typically rises three times as much in severe recessions than in other recessions. Inflation typically drops slightly (in 60 percent of all recessions), as expected given that aggregate demand is often down in recessions, but inflation does not seem to vary between the types of recessions, possibly as some severe recessions have been of the stagflation type—a recession combined with an acceleration in the rate of inflation. We discuss the implications of such recessions later in the paper.

Next, we examine the changes in our key financial variables during recessions. Although credit typically continues to grow, it does so only at about 1 percent, with its growth rate especially low in the initial stages of recessions. Credit growth does not vary much, however, between severe and other recessions. Both house and equity prices typically contract in recessions, with larger declines in house prices in severe than in other recessions.20 Reflecting the generally more volatile nature of equity prices, the decline in equity prices is more than twice that of house prices as the median equity price decreases by 16 percent in severe recessions, or some 12 percent more than in other recessions.

We also study the quarterly changes in the main macroeconomic variables during recessions and compare them with those during non-recession (expansion) periods. This exercise can be seen as another way of evaluating the cost of recessions relative to the average growth rate of the economy during expansionary periods. The median quarterly decline in output during recessions is around -0.5 percent whereas during expansionary periods it is close to 0.9 percent. This suggests that a typical recession leads to roughly 1.5 percent decline in output per quarter compared with the periods of expansions the countries normally enjoy. The average rate of contraction in consumption was much smaller than that in output with 0.03 percent per quarter, but the rate of growth during expansions was close to 0.75 percent. More volatile variables of national income exhibit sharper differences in growth across the periods of recessions and expansions.

C. Dynamics of Recessions

We next examine how various macroeconomic, trade and financial variables behave around recessions (see Figure 3). We focus on patterns in the year-on-year growth in each variable over a 6-year window—12 quarters before and 12 quarters after a peak.21 All panels include the median growth rate, i.e., the typical behavior, along with the top and bottom quartiles. As noted, according to our definition, the bottom quartile includes the severe recessions, while the top quartile contains the mild ones.

Figure 3.
Figure 3.
Figure 3.
Figure 3.

Recessions in OECD Countries

(Percent change from a year earlier unless otherwise noted; zero denotes peak; x-axis in quarters)

Citation: IMF Working Papers 2008, 274; 10.5089/9781451871326.001.A001

Notes: The solid line denotes the median of all observations while the dotted lines correspond to upper and lower quartiles. Zero is the quarter after which a recession begins (peak in the level of output).Notes: The solid line denotes the median of all observations while the dotted lines correspond to upper and lower quartiles. Zero is the quarter after which a recession begins (peak in the level of output). Inflation rate, unemployment rate, net exports/GDP, and current acount balance are the level of the respective variable in percent.

The evolution of output growth around a recession is as expected. Following the peak at date 0, output tends to register a negative annual growth rate after 3 quarters, and its growth rate goes down to -1 percent at the end of the fourth quarter after the peak. In severe recessions, the growth rate falls to -2 percent at that time. Although consumption does not decrease on a year-to-year basis in a typical recession, it does fall during the first year of a severe recession. In terms of timing, the evolution of consumption around recessions resembles the behavior of output.

Some macroeconomic variables naturally show early signs of a slowdown before the recession starts. For example, residential investment typically declines sharply ahead of the onset of recessions. Moreover, both components of investment (residential and non-residential) often register negative year-to-year changes already in the first quarter of a recession, i.e., three quarters ahead of output, and their growth rates typically stay negative for up to 6 quarters implying that the recovery in investment often starts later than that in output. In severe recessions, recovery of the growth rate of investment can take up to three years.

Industrial production also shows signs of weakness early on and typically registers a sharp decline before a recession starts. During the onset of recessions, inflation is typically still on an increasing path, and unemployment is already starting to rise. After the recession starts, however, the rate of inflation declines while the increase in the unemployment rate accelerates. Unemployment is a good leading indicator of economic activity as it typically begins climbing a quarter ahead of recessions but stays compressed more than a year after the end of the recession.

In terms of trade variables, the growth rates of both exports and imports slow down in a recession, but that of imports much more. The growth rate of imports often tends to fall before the recession starts and can decline to -7 percent in the first year of a severe recession. While both net exports and the current account balance improve during a typical recession, the improvement in net exports is often earlier and more pronounced than that of the current account.

Credit growth also slows down, by some 2 to 3 percentage points before a recession starts, and then by another 2 percentage points over the recession period, typically not returning to pre-recession growth rates for at least three years after the recession started. Recessions are often also proceeded by slowdowns in the growth rates of asset prices. In the first year of a typical recession, for example, house and equity prices decline on a year-to-year basis by roughly 3 and 16 percent, respectively. While equity prices often start registering positive growth after about six quarters, house prices typically decline during the two years after the end of a recession.

D. Synchronization of Recessions, Credit Contractions and Asset Price Declines

We next examine the synchronization of recessions, credit contractions and asset price declines across countries. Our synchronization measure is simply the fraction of countries experiencing the same event at the same time.22 For recessions, Figure 4 shows how this fraction evolves over time along with the dates of recessions in the United States. The figure shows recessions bunching in about four periods during 1960–2007. First, a large fraction of countries went into recession in the mid-1970s, shortly after the first oil price shock. The fraction of countries in recession also rose during the second oil price shock and the period of highly synchronized contractionary monetary policies across major industrial economies in the early 1980s. In the early 1990s, recessions were again highly synchronized around the world, and in the early 2000s to some degree. In the first three of these four periods, more than 50 percent of countries in our sample were in a recession at the same time. The peak episodes of highly synchronized recessions quickly followed each other in some instances, as shocks spilled from one country to the other. This was, for example, the case in the early 1990s because of the asymmetric shocks hitting countries across major currency areas (see Morsink, Helbling and Tokarick, 2002).23

Figure 4.
Figure 4.

Synchronization of Recessions

(Share of countries experiencing recessionary episodes of output, consumption and investment, percent)

Citation: IMF Working Papers 2008, 274; 10.5089/9781451871326.001.A001

Notes: Share of countries experiencing recessions in output, consumption and investment. Shaded bars indicate periods of U.S. recessions.

We document in the same way the synchronization of turning points in consumption and investment. A well known stylized fact of business cycles is that investment is much more volatile than output and consumption is somewhat less volatile than output (Backus, Kehoe and Kydland, 1995).24 In our sample, indeed, investment declines in three-fourth of all recessions while consumption contracts in only half of all recessions. Consistent with these observations, the fraction of countries experiencing a period of investment (consumption) contraction at any time is much higher (lower) than that of those experiencing recessions. And, while investment contractions are highly synchronized, consumption contractions are much less so. These results are consistent with recent findings suggesting that common factors play a much larger role in explaining fluctuations in investment than they do in consumption (Kose, Otrok and Prasad, 2008).25

Recessions tend to coincide with contractions in domestic credit and declines in asset prices, as documented in Section IIIC. This also shows up in the fraction of countries experiencing recessions around the world being highly correlated with the fractions of those going through credit contractions or bear asset markets (Figure 5). In particular, credit contractions are closely associated with recessions. House price declines are also highly synchronized across countries, despite the fact that housing is a nontradable asset, and the degree of synchronization rises especially during recession episodes.26 Equity prices exhibit the highest degree of synchronization reflecting the extensive integration of financial markets. However, the popular saying that “Wall Street has predicted nine of the last five recessions” resonates here as the fraction of countries experiencing bear equity markets frequently exceeds the fraction of countries in a recession.

Figure 5.
Figure 5.

Synchronization of Credit Contractions and Asset Price Declines

(Share of countries experiencing credit contractions or asset price declines, percent)

Citation: IMF Working Papers 2008, 274; 10.5089/9781451871326.001.A001

Notes: Share of countries experiencing episodes of credit contractions, house price declines and equity price declines. Shaded bars indicate periods of U.S. recessions.

IV. What Happens During Credit Contractions and Asset Price Declines?

In this section, we study the main features of the episodes of credit contractions and declines in the prices of housing and equity in our sample. As we explained in Section II, credit contractions and asset price declines that fall into the top quartile of all credit contractions and asset price declines are classified as credit crunches and asset price busts, respectively. In particular, when the peak-to-trough decline in credit exceeds 9.5 percent, it is called a crunch episode, and when the decline in house (equity) price is larger than 14.3 (38.7) percent, it qualifies as a house (equity) price bust. In the following sub-sections, we first document the basic stylized facts of each of these credit contraction/crunch and asset price decline/bust events and then examine the temporal patterns of various macroeconomic and financial variables around these episodes.

A. Episodes of Credit Contractions

Table 2A shows the main features of credit contractions and crunches for each country in our sample. There are 112 (28) credit contraction (crunch) episodes. A typical OECD country went through about 6 credit contractions, but there is much variation across countries. Germany, the Netherlands, and Spain witnessed only a few contractions (2 to 3) while Greece, New Zealand and Portugal had the highest number (8). Austria, France, Germany and Switzerland never experienced a credit crunch episode during the 1960-2007 period, but the other countries in our sample had at least one.

Table 2.A.

Credit Contractions: Basic Statistics

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Notes: Duration is the number of quarters between a peak and the next trough of a contraction. Proportion of time in contraction refers to the ratio of the number of quarters in which credit is experiencing a contraction episode over the full sample period. Amplitude is the percent change in credit from a peak to the next trough of a contraction. Credit crunches correspond to peak-to-trough declines in credit that are in the top 25 percent of all episodes of credit declines. Country-specific data are means. Country-group data are means/medians.

The median (average) credit contraction episode lasts 4 (6) quarters. Credit crunches last typically twice as long, 8 quarters, and are statistically significantly longer than non-crunch (other) contraction episodes (Table 2B). Credit contractions usually mean some 4 percent decline in credit from peak to trough. In case of crunches, the decline in credit is 17 percent, significantly more than during the non-crunch episodes.

Table 2.B.

Credit Contractions: Summary Statistics

(Percent change unless otherwise indicated)

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Notes: Credit crunches correspond to peak-to-trough declines in credit that are in the top 25 percent of all episodes of credit declines. Other contractions refer to episodes that are not credit crunches. In each cell, the mean (median) change in the respective variable from peak to trough of the episodes of credit declines/crunches is reported, unless otherwise indicated. The symbols *, **, and *** indicate that the difference between means (medians) of credit crunches and other contractions is significant at the 10 percent, 5 percent, and 1 percent levels, respectively.

Number of quarters.

Change in levels.

While output growth slows down, especially early on in a credit contraction or crunch episode (as we show next), output typically is higher at the end than at the beginning of these episodes. The increase in output during contractions and crunches is not surprising since these episodes do not always fully overlap with recessions and last twice as long as recessions do. Output also expands significantly more during crunches than during other contractions, probably because the duration of a typical crunch episode is 5 quarters longer than the duration of a typical non-crunch episode. Still, the average growth rate of output in credit crunch episodes is less than half of that observed during other periods.27

Credit contractions are associated with visibly strong negative effects on investment. In particular, credit contractions (crunches) are typically accompanied with declines in residential investment of about 1 (6) percent over the period when credit contracts. The unemployment rate is typically flat during a credit contraction, but increases significantly during a credit crunch episode, primarily because of job losses early on in these episodes when economic activity also weakens.

With respect to other financial variables, house prices typically decline significantly more during credit crunches, by some 10 percent versus 1 percent in the typical non-crunch episode. While equity prices usually also decline somewhat during credit contractions, they actually increase over the credit crunch episodes, perhaps anticipating a recovery from the deeper credit slump and the longer duration of these episodes.

We then examine how the various macroeconomic and financial variables behave around credit crunches (Figure 6). As for recessions, we focus on patterns in the year-on-year growth in each variable over a 6-year window—12 quarters before and 12 quarters after a peak of credit expansion. All panels include the median growth rates, i.e., the typical behavior, along with the top and bottom quartiles. As before, the bottom quartile denotes the worst 25 percent of all credit crunches and the top quartile the best 25 percent.

Figure 6.
Figure 6.
Figure 6.

Credit Crunches in OECD Countries

(Percent change from a year earlier unless otherwise noted; zero denotes peak; x-axis in quarters)

Citation: IMF Working Papers 2008, 274; 10.5089/9781451871326.001.A001

Notes: The solid line denotes the median of all observations while the dotted lines correspond to upper and lower quartiles. Zero is the quarter after which a crunch begins (peak in the level of credit). Inflation rate is the level of the inflation rate in percent.Notes: The solid line denotes the median of all observations while the dotted lines correspond to upper and lower quartiles. Zero is the quarter after which a crunch begins (peak in the level of credit). Unemployment rate is the level of the unemployment rate in percent.

Output growth typically starts declining two quarters before the beginning of a credit crunch and goes down by 2 percentage points after the fifth quarter. Although output growth typically does not become negative on a year-to-year basis in a credit crunch, it does so in at least one-quarter of the crunch episodes as evidenced by the bottom quartile. In a typical credit crunch, the year-on-year growth rate in consumption goes down as well and can fall to -2 percent in about five quarters in some crunch episodes.

As expected, investment weakens before the credit crunch starts. In particular, residential investment typically starts to slow down much before the crunch episode begins, and actually shrinks one quarter ahead of the start of the episode. Growth rates of total investment and residential investment typically stay negative for up to 8 quarters. Moreover, investment can take up to three years and residential investment even longer to recover in some episodes of credit crunches, much longer than the duration of slowdown in output. Inflation is on an increasing path and unemployment is already starting to rise prior to the start of a credit crunch, but as activity slows down after the beginning of a crunch, the rate of inflation declines and the increase in the rate of unemployment accelerates.

Credit crunches are generally preceded by a period of rapid expansion in credit, but are most often accompanied by slowdowns in asset prices. The median (year-to-year) credit growth is 5 to 6 percent just before the peak of credit expansion is reached and then slows down sharply over the crunch period, by more than 10 percentage points, falling to -6 percent and not returning to positive levels until 10 quarters after the credit crunch started. The rapid decline in credit during this period likely reflects both lower demand, e.g., decrease in investment, but also a fall in supply due to bank capital shortfalls and other adverse supply side effects. The figure shows the clear spillover effects from tight credit markets to the housing and equity markets. In particular, house prices typically fall in the first year of a credit crunch and continue to decline for at least three years after the beginning of a crunch episode. Equity prices often decline before a credit crunch episode starts and further weaken during the first year, but then frequently stage a recovery ahead of the pick up in credit.

B. Episodes of Declines in House Prices

Table 3A shows the main features of house price declines and busts for each country in our sample. There are 114 (28) episodes of house price decline (bust) implying that a typical country experienced around 6 such episodes. Australia and Canada had the largest number (9) of decline episodes while Greece had only 1. While the majority of countries had at least one house price bust over the 1960-2007 period, Australia, Belgium, Germany, Greece, Portugal, the United Kingdom, and the United States did not experience any.28 The typical episode of a decline in house prices lasts 6 quarters, but housing busts usually last more than 16 quarters. While the typical (median) decline in house prices is only 6 percent, due to some very large declines in the sample, the average decline is around 11 percent. During a house price bust, prices decline by about 29 percent typically.

Table 3.A.

House Price Declines: Basic Statistics

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Notes: Duration is the number of quarters between a peak and the next trough of a decline. Proportion of time in decline refers to the ratio of the number of quarters in which house prices are experiencing a decline episode over the full sample period. Amplitude is the percent change in house prices from a peak to the next trough of a contraction. House price busts correspond to peak-to-trough declines in house prices that are in the top 25 percent of all episodes of house price declines. Country-specific data are means. Country-group data are means/medians.

Like credit contractions, output typically still expands during episodes of house price declines (Table 3B). As in the case of credit contractions, this mainly reflects that house price declines last a long time during which output still grows, albeit at a much lower rate.29 There appears to be, however, a substantially adverse impact of house price declines on investment (and its components) which is much larger than that in credit contractions. During periods of house price declines (busts), residential investment typically shrinks by 4 (12) percent. Total investment also goes down, typically, by more than 8 percent. While the unemployment rate usually records a statistically significant increase during bust episodes relative to non-bust (other decline) episodes, inflation tends to be much lower at the end of house price busts, by some 3 percentage points. Credit still expands over the episodes of house price declines, but at a slower rate than normal, and equity prices do not change much. These findings suggest that developments in the housing market can have particularly strong links with the overall economy.

Table 3.B.

House Price Declines: Summary Statistics

(Percent change unless otherwise indicated)

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Notes: House price busts correspond to peak-to-trough declines in house prices that are in the top 25 percent of all episodes of house price declines. Other declines refer to episodes that are not house price busts. In each cell, the mean (median) change in the respective variable from peak to trough of house price declines/busts is reported, unless otherwise indicated. The symbols *, **, and *** indicate that the difference between means (medians) of house price busts and other declines is significant at the 10 percent, 5 percent, and 1 percent levels, respectively.

Number of quarters.

Change in levels.

Figure 7 presents the dynamics of the key macroeconomic and financial variables around the periods of house price busts. Although the typical slowdown in output around a house price bust is more gradual than that in a credit crunch, the dynamics of house price busts are otherwise quite similar to those of credit crunches. The slowdown in output starts at the time of the house price bust and is associated with a slowdown in consumption growth. Investment declines largely occur after the onset of the house price decline and involve contractions in both residential and nonresidential investment. While residential investment declines less sharply after the first year of the beginning of a house price bust than that of a credit crunch, the recovery of residential investment takes much longer in house price busts.

Figure 7.
Figure 7.
Figure 7.

House Price Busts in OECD Countries

(Percent change from a year earlier unless otherwise noted; zero denotes peak; x-axis in quarters)

Citation: IMF Working Papers 2008, 274; 10.5089/9781451871326.001.A001

Notes: The solid line denotes the median of all observations while the dotted lines correspond to upper and lower quartiles. Zero is the quarter after which a bust begins (peak in the level of house price). Inflation rate is the level of the inflation rate in percent.Notes: The solid line denotes the median of all observations while the dotted lines correspond to upper and lower quartiles. Zero is the quarter after which a bust begins (peak in the level of house price). Unemployment rate is the level of the unemployment rate in percent.

After a few quarters, and often following a run-up, inflation typically experiences a sharp decline, and unemployment starts to rise after about two years as the impact of the house price decline is gradually felt more broadly. As noted, house prices remain on the decline for long periods during a bust episode, typically much more than three years. While equity prices start falling before the onset, they usually begin to recover within two years of a house price bust. Credit growth experiences a large slowdown and does not return to the pre-bust levels for at least three years.

C. Episodes of Declines in Equity Prices

Table 4A presents the main features of equity price declines and busts for each country in our sample. Since equity prices are much more volatile than house prices, there are many more episodes, 234 (58), of declines (busts) in equity than in house prices. In a typical country, there were around 11 (3) episodes of equity declines (busts). While Italy had 7 equity bust episodes, Greece, Spain and the United States experienced only one. Episodes of declines vary quite a bit in terms of their durations and amplitudes across countries, but they typically last 5 quarters and are associated with a price drop of 27 percent. Equity busts, however, typically last 10 quarters and are accompanied with a 50 percent price decline.

Table 4.A.

Equity Price Declines: Basic Statistics

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Notes: Duration is the number of quarters between a peak and the next trough of a contraction. Proportion of time in decline refers to the ratio of the number of quarters in which equity prices are experiencing a decline episode over the full sample period. Amplitude is the percent change in equity prices from a peak to the next trough of a contraction. Equity price busts correspond to peak-to-trough declines in equity prices that are in the top 25 percent of all episodes of equity price declines. Country-specific data are means. Country-group data are means/medians.

As in the cases of credit contractions and house price declines, while both output and consumption also continue to grow during episodes of equity price declines, they do so at lower rates than typical (Table 4B).30 However, different than for credit contractions and house price declines, there is no decline in investment over the episodes of equity price declines. While unemployment picks up a little bit, the rate of inflation does not change much during periods of equity price declines. Credit still registers an expansion and house prices typically increase between the peak and trough of the equity price decline episodes. In sum, equity price declines appear somewhat less related to the real economy than credit contractions or house prices declines.

Table 4.B.

Equity Price Declines: Summary Statistics

(Percent change unless otherwise indicated)

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Notes: Equity price busts correspond to peak-to-trough declines in equity prices that are in the top 25 percent of all episodes of equity price declines. Other declines refer to episodes that are not equity price busts. In each cell, the mean (median) change in the respective variable from peak to trough of equity price declines/busts is reported, unless otherwise indicated. The symbols *, **, and *** indicate that the difference between means (medians) of equity price busts and other declines is significant at the 10 percent, 5 percent, and 1 percent levels, respectively.

Number of quarters.

Change in levels.

The weak connection between the dynamics of equity prices and economic activity is also reflected in the behavior of the main macroeconomic variables (Figure 8). The growth rate of output slows down, but this usually starts only three quarters after the beginning of the equity bust and is much more limited, with the level of output typically not experiencing a decline. The extent of slowdown in consumption growth associated with an equity price bust is also delayed—until after one year or so, and is weaker than that observed during credit crunches and house price busts. The decline in investment growth follows with a relatively long lag the start of the equity price bust—only after 3 to 4 quarters does investment growth slow down. The growth rate of non-residential investment increases for a few quarters after the start of the bust, before falling at a much faster rate than residential investment growth. Inflation typically remains elevated and unemployment experiences only a very small increase after an equity price bust.

Figure 8.
Figure 8.
Figure 8.

Equity Price Busts in OECD Countries

(Percent change from a year earlier unless otherwise noted; zero denotes peak; x-axis in quarters)

Citation: IMF Working Papers 2008, 274; 10.5089/9781451871326.001.A001

Notes: The solid line denotes the median of all observations while the dotted lines correspond to upper and lower quartiles. Zero is the quarter after which a bust begins (peak in the level of equity price). Inflation rate is the level of the inflation rate in percent.Notes: The solid line denotes the median of all observations while the dotted lines correspond to upper and lower quartiles. Zero is the quarter after which a bust begins (peak in the level of equity price). Unemployment rate is the level of the unemployment rate in percent.

The fall in equity prices itself is a sharp and prolonged one as prices do not start to recover within the three year period following the start of the bust. Credit growth experiences a delayed slowdown as well, only to pick up somewhat two years after the beginning of the equity bust. Interestingly, there appears to be also a lag in terms of the behavior of house prices, since their growth rate typically starts to decline only after one year, becoming negative after two years.

These findings suggest that the temporal dynamics of the main components of domestic absorption after credit crunches and house price busts resemble the behavior they exhibit during recessions. For example, the much larger decline in the growth rate of investment compared with that of consumption is a feature of recessions as well, as documented in the previous section. The sharper fall in consumption following house price busts than that following equity price busts is consistent with the result that recessions associated with house price busts are generally more costly than those associated with equity price busts, as we are about to document in the next section.

D. Credit Contractions and Asset Price Declines: A Summary

Table 5 summarizes the implications of the episodes of credit contractions, house prices declines and equity price declines. In terms of duration, the episodes of declines and busts of house prices last longer than credit contractions/crunches or equity price declines/busts. While less persistent than house price declines, drops in equity prices are much larger. In particular, a typical episode of house price decline (bust) leads to a 6 (29) percent drop in house prices, while an episode of equity price decline (bust) tends to result in a 27 (50) percent fall in equity prices. Both credit crunches and house price busts have adverse effects on the growth rate of investment, its components, and unemployment. House price busts, in particular, are associated with larger drops in investment and the rate of employment. Residential investment, for example, declines by 6 and 12 percent during credit crunches and house busts, respectively.

Table 5.

Credit Contractions and Asset Price Declines: Summary Statistics

(Percent change unless otherwise indicated)

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Notes: Credit crunches and asset price busts correspond to peak-to-trough declines in credit and asset prices that are in the top 25 percent of all episodes of credit contractions and asset price declines, respectively. In each cell, the mean (median) change in the respective variable from peak to trough of the episodes of credit declines/crunches, house price declines/busts, and equity price declines/busts is reported, unless otherwise indicated. The symbols *, **, and *** indicate that the difference between means (medians) of crunches/busts and other contractions/declines is significant at the 10 percent, 5 percent, and 1 percent levels, respectively.

Number of quarters.

Change in levels.

V. What Happens During Recessions Associated with Crunches and Busts?

We now analyze the features of recessions that are associated with credit crunches, house price busts and equity price busts. As we explained in section II, if a recession episode starts at the same time or after the beginning of an ongoing credit crunch or asset price bust, we consider that recession to be associated with the respective credit crunch or asset price bust. We identified 18, 34 and 45 recession episodes associated with credit crunches, house price busts and equity price busts, respectively. The association we focus on, by definition, implies a coincidence between the two events, but does not suggest a causal link. To provide a sense of distributions, we also examine the features of recessions coinciding with severe credit crunches or asset price busts. These severe crunch/bust episodes consist of the top 12.5 percent of all credit contractions or asset price declines (or the top half of all credit crunches or asset price busts).

A. Recessions Associated with Credit Crunches

We first examine the number of lags between the start of a credit crunch and the beginning of the corresponding recession. If a recession is associated with a credit crunch, it typically starts 4-5 quarters after the onset of the credit crunch (Table 6). Since credit crunches last longer than do recessions, the latter tend to end 2 quarters before their corresponding credit crunch episodes. These findings suggest that the phenomenon of “creditless recoveries” is not specific to sudden stop episodes observed in emerging markets (see Calvo, Izquierdo and Talvi, 2006) but is also a feature of business cycles in industrial countries.

Table 6.

Leads and Lags: Recessions, Crunches and Busts

(Number of Quarters)

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Number of quarters between the start of a crunch/bust and the start of a recession.

Number of quarters between the end of a recession and the end of a crunch/bust.

Table 7 presents the main features of recessions associated with or without credit crunches. The average duration of a recession associated with a (severe) credit crunch slightly exceeds that without a crunch, but the difference is not statistically significant. Interestingly, recessions ended before their corresponding credit crunch episodes completed in all except four cases. There is typically a larger output decline in those recessions associated with a credit crunch compared to other recessions, -2.2 versus -1.8 percent, or a 0.4 percentage points difference (although this is again not statistically significant). For recessions with a severe credit crunch though, the difference in output decline is larger, 0.9 percentage points, and statistically significant.

Table 7.

Recessions Associated with Credit Crunches

(Percent change unless otherwise indicated)

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Notes: Severe credit crunches are those that are in the top half of all crunch episodes. In each cell, the mean (median) change in the respective variable from peak to trough of recessions associated with credit crunches is reported, unless otherwise indicated. The symbols *, **, and *** indicate that the difference between means (medians) of recessions with credit crunches and recessions without credit crunches is significant at the 10 percent, 5 percent, and 1 percent levels, respectively.

Number of quarters.

Change in levels.

The cumulative output loss of recessions associated with (severe) crunches is typically significantly larger than those without crunches. In particular, the average (median) cumulative loss of a recession associated with a severe crunch is two times that of without a crunch. Recessions with crunches are generally associated with greater contractions in consumption, investment, industrial production, employment, exports and imports, compared to those recessions without crunches. Except for industrial production, however, these differences are not significant.

Credit, by construction, registers much larger (and statistically significant) declines in recessions with crunches than those without crunches (Dell’ Ariccia and Garibaldi, 2005). House prices also fall statistically significantly more in recessions with crunches than those without. This might stem from the high sensitivity of housing activity to credit conditions (Kiyotaki and Moore, 1997; Mendoza and Terrones, 2008). In contrast, equity prices actually decrease less in recessions with crunches and even record increases in recessions with severe crunches. This may reflect that equity prices decline more in the onset of recessions and that markets anticipate a recovery during these types of recessions.

B. Recessions Associated with House Price Busts

There are a number of statistically significant differences between recessions coinciding with house price busts and those without busts (Table 8). In particular, recessions associated with house price busts are on average over a quarter longer than those without busts. Moreover, output declines (and corresponding cumulative losses) are typically much larger in recessions with busts, 2.2 (3.7) percent versus 1.5 (2.3) percent in those without busts. These sizeable differences also extend to the other macroeconomic variables, including consumption, investment and the unemployment rate. For example, although consumption typically does not decrease much in recessions (as documented in Section III. A), there is a statistically significant decline in consumption in recessions associated with house price busts and in case of severe busts a more than 1 percentage points decline. The large fall likely reflects the substantial effects of housing wealth on consumption.31 These findings collectively suggest that recessions with house price bust have the potential to result in more adverse macroeconomic outcomes than do those without such busts.

Table 8.

Recessions Associated with House Price Busts

(Percent change unless otherwise indicated)

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Notes: Severe house price busts are those that are in the top half of all bust episodes. In each cell, the mean (median) change in the respective variable from peak to trough of recessions associated with house price busts is reported, unless otherwise indicated. The symbols *, **, and *** indicate that the difference between means (medians) of recessions with house price busts and recessions without house price busts is significant at the 10 percent, 5 percent, and 1 percent levels, respectively.

Number of quarters.

Change in levels.