A recession is a major and widespread decline in economic activity that usually goes on for more than just a couple of months. A typical guideline is that two back-to-back quarters of a decrease in gross domestic product (GDP) signal a recession. But honestly, it’s way more complicated than that.
Learn more about Recession
Ever since the Industrial Revolution, economies have generally been on the rise, with only a handful of downturns. Still, recessions happen quite often. From 1960 to 2007, there were 122 recessions that impacted 21 developed economies, as reported by the International Monetary Fund (IMF). Lately, though, recessions have been happening less often and tend to last for a shorter time.
Economic downturns and job losses during recessions can create a cycle that keeps going. For instance, when consumer demand drops, businesses might have to let go of employees, which then reduces how much consumers can spend, leading to even lower demand.
In the same way, bear markets that usually come with recessions can undo the wealth effect, making people feel less wealthy all of a sudden and cutting back on their spending.
Ever since the Great Depression, countries everywhere have been using fiscal and monetary strategies to stop a typical recession from spiraling out of control. Some of these stabilizing elements happen automatically, like unemployment insurance that provides cash to workers who get laid off. Other actions need to be taken, like lowering interest rates to encourage investment.
Economists from the National Bureau of Economic Research (NBER) assess recessions by examining nonfarm payrolls, industrial output, and retail sales, along with various other indicators. According to NBER, there’s “no set guideline on which measures provide insights for the process or how they influence our decisions.”
For something to be considered a recession according to the NBER, it has to be a significant, widespread, and long-lasting downturn. Because some of these characteristics might not be clear at the start of a downturn, a lot of recessions are labeled retroactively.
Recessions are usually recognized only after they’ve passed. Plus, investors, economists, and workers can have totally different views on when a recession is at its peak.
Stock markets often drop before an economic slump, leading investors to think a recession has started as they see their investments lose value and corporate profits fall, even if other indicators like consumer spending and unemployment still look good.
On the flip side, since unemployment tends to stay high long after the economy has hit rock bottom, employees might feel like a recession is dragging on for months or even years, even when economic activity starts to bounce back.
What Happens in a Recession?
During a recession, economic output, jobs, and consumer spending take a hit. Interest rates usually go down too, as central banks like the U.S. Federal Reserve lower rates to help boost the economy. At the same time, the government’s budget deficit grows because tax revenues fall, while spending on unemployment benefits and other social programs increases.
Conclusion
A recession is a major, widespread, and extended decline in economic activity. Typically, recessions are defined by two back-to-back quarters of negative growth in gross domestic product (GDP), but there are also more intricate methods to evaluate and categorize downturns.
The unemployment rate serves as a crucial indicator of a recession. When the demand for goods and services decreases, businesses require fewer employees and might let some go to save money. Those who are laid off then have to reduce their own spending, which further diminishes demand and can result in additional layoffs.
Since the Great Depression, governments globally have implemented fiscal and monetary strategies to stop recessions from escalating into depressions, including measures like unemployment insurance and lowering interest rates.