Which of the following best describes how a recession develops as demand and production decrease?

• A. Stable demand and production levels ensure that the economy remains in equilibrium without significant changes in employment.
• B. Falling demand leads to lower production, resulting in rising unemployment and reduced income, which further decreases demand.
• C. Increasing demand causes firms to expand production, leading to higher employment and economic growth.
• D. Rising production despite falling demand leads to higher prices and inflation.

Answer: (B)

Verified step by step guidance

1. Step 1: Understand the concept of a recession in microeconomic terms. A recession typically occurs when there is a significant decline in economic activity across the economy, lasting more than a few months, often visible in GDP, employment, and production levels.
2. Step 2: Analyze the role of demand in the economy. Demand refers to consumers' willingness and ability to purchase goods and services. When demand falls, firms experience lower sales.
3. Step 3: Connect falling demand to production decisions. Firms respond to decreased demand by reducing production to avoid excess inventory, which means they need fewer workers.
4. Step 4: Recognize the impact on employment and income. Reduced production leads to layoffs or reduced working hours, causing unemployment to rise and household incomes to fall.
5. Step 5: Understand the feedback loop. Lower income means consumers have less money to spend, which further decreases demand, deepening the recessionary cycle.