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Word of the Week 'Recession'



Updated Mar 6, 2019

What is a Recession

A recession is a significant decline in economic activity that goes on for more than a few months. It is visible in industrial production, employment, real income and wholesale-retail trade. The technical defintion of a recession is two consecutive quarters of negative economic growth as measured by a country's gross domestic product (GDP), although the National Bureau of Economic Research (NBER) does not necessarily need to see this occur to call a recession.

Causes of a Recession

Recession is a normal, albeit unpleasant, part of the business cycle. However, one-time crisis events can often trigger the onset of a recession. The global recession of 2009 brought a great amount of attention to the risky investment strategies used by large financial institutions, along with the global nature of the financial system. As a result of the wide-spread global recession, the economies of virtually all the world's developed and developing nations suffered significant setbacks. Numerous government policies were implemented to help prevent a similar future financial crisis as a result. Typically, a recession lasts from six to 18 months, and interest rates usually fall during these months to stimulate the economy.

Recession Predictors and Indicators

There is no reliable way to predict how and when a recession will occur. But, according to many economists, there are some generally accepted predictors that. when they occur together, may point to a possible recession. First, asset prices will begin to decline. This includes home prices and other financial assets like stocks. Another possible predictor is unemployment; generally speaking, a three-month change in the unemployment rate and initial jobless claims will point to a recession. An inverted yield curve is also another predictor. When long-term yields fall below the short term ones (the 10-year vs. the 3-month Treasury securities), a recession will occur. Conversely, a positively sloped curve (in the opposite direction) will signal inflationary growth. Since 1970, all the recessions that have taken place in the United States up through 2017 have followed an inverted yield curve.

Aside from two consecutive quarters of GDP decline, economists assess several metrics to determine whether a recession is imminent or already taking place. These indicators are divided into two categories: leading indicators and lagging indicators. Leading indicators materialize before a recession is officially declared. Perhaps the most common leading indicator is contraction in the stock market. Declines in broad stock indices, such as the Dow Jones Industrial Average (DJIA) and Standard & Poor's (S&P) 500 index, often appear several months before a recession takes shape. This was the case in 2007 in the United States, when the market began declining in August, four months ahead of the official recession in December 2007.

Lagging indicators of a recession include the unemployment rate. Though the Great Recession began in December 2007, the unemployment rate still indicated full employment — a rate of 5% or lower — four months later. The unemployment rate began declining in May 2008 and did not recover until several months after the recession ended in June 2009.

What Are the Long-Term Impacts of a Recession?

Even though recessions are portrayed as short-term events, there are longer term consequences that come from a period of economic downturn. Higher unemployment can mean that affected people and families may be forced to put off saving for or pursuing educational opportunities, buying a home, or just saving for a rainy day. The quality of life and standard of living for most people start to decline as well, which can affect the stability of families, and their health and overall well-being. Businesses also start to feel the pinch; as consumers freeze their spending, small business profits start to decline and large companies may put off investing in research and development (R&D).

Recession Vs. Depression

A depression is a deep and long-lasting recession. While no specific criteria exist to declare a depression, unique features of the last U.S. depression — the Great Depression of the 1930s — included a GDP decline in excess of 10% and an unemployment rate that briefly touched 25%. Simply, a depression is a severe decline that lasts for many years. There have been 33 recessions in the United States since 1854, but there has been only one depression since then.

A History of Recessions in the United States

Economists say there have been 33 recession in the United States since 1854 through to 2017. Since 1980, there have been four periods of negative economic growth that were considered recessions.

  • July 1981-November 1982: This recession affected most of the developed world between the late 1970s to the early 1980s. During this time, the Federal Reserve wanted to rein in inflation and, as a result, began to tighten its monetary policy. Effects from the energy crisis in 1979 (the output of crude oil dropped in the wake of the Iranian Revolution, causing an uptick in prices) were also felt throughout the economy. American unemployment peaked at 10.8% in November 1982 and GDP declined 2.7% .

  • July 1990-March 1991: This downturn was caused by a combination of the Iraqi invasion of Kuwait in 1990 (which caused a shock to oil prices), weaker consumer and business confidence and declining employment. It was estimated that the economy lost about 1.6 million jobs during this period — most of which were in the construction and manufacturing sectors.

  • March 2001-November 2001: This downturn was a result of Y2K, when dot.com companies were enjoying relatively high interest from investors. This boom led to a bust, with stock prices plummeting along with the values of many high-tech companies. But at the time, the Fed continued to raise interest rates, making it more difficult for companies to obtain (cheaper) credit to stay afloat. The 9/11 attacks also took place during this period, which worsened the crisis. The New York Stock Exchange (NYSE)closed for four days and U.S. indices dropped to some of their lowest levels following the attacks.

  • December 2007-June 2009: The housing bubble burst in the U.S. because of the subprime mortgage crisis. Oil and food prices still rose, despite a drop in housing-related assets. Many of the country’s large financial institutions failed or collapsed including Fannie Mae, Freddie Mac, Lehman Brothers, Bear Stearns and AIG. The nation’s car industry also experienced a fallout and stock markets saw significant drops. The government responded by introducing a $787 billion stimulus package to fuel economic growth.