What is a recession?
A recession is a period of declining economic activity that lasts for more than a few months. It is not as serious as a depression but does signal that the economy is struggling.
Two definitions of recessions
- The most commonly used definition of a recession requires two consecutive quarters of “negative economic growth,” which means that the nation’s GDP has declined for two consecutive three-month periods.
- The National Bureau of Economic Research (NBER) has a more well-rounded definition of recession, which considers recession to be a normal part of a larger economic cycle. Under this definition, a recession is simply the period after the economy reaches a peak up until the point that it hits another upswing.
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Causes of a recession
A recession is not necessarily caused by any one thing but can be caused by large events, such as:
- Financial crisis
- Large-scale fraud
- Leads to unscrupulous lending and investing practices, which can lead to bank or investment fund failures
- Energy crisis
- Currency devaluation
- Decline in consumer confidence
- Supply-Demand imbalance
- Irrational exuberance
- When consumers borrow more than they can afford to because they think asset values will continue to climb forever, such as during the housing bubble that preceded the 2008 crash.
- High interest rates
- Economic slowdown after a war
- Credit crunch
- When banks stop lending to each other
The vicious cycle
Economic decline often leads to a downward spiral or snowball effect.
High interest rates discourage consumer spending
People spend less
Business profits fall
Businesses reduce wages or lay off workers
Investors panic due to falling corporate profits
Stock prices decline
Unemployment and lack of consumer confidence further decrease spending
The cycle continues
Several factors may indicate a recession is underway, such as:
- High unemployment
- Jobs are difficult to get; highly competitive job market
- Declining stock market trends
- Decreased consumer spending
- Large layoffs
- Decreased wages
- Increasing interest rates
- Increased number of foreclosures
Many of these things, however, can be both a cause of a recession and a symptom of it. Recessions are complicated, and several economic factors are typically at play simultaneously.
Some “leading indicators” of a recession, such as declining stock prices, can also be symptoms (or “lagging indicators”) of economic decline.
The great recession
The most recent recession in American history happened in the late 2000s. It was officially declared in December 2007 and continued until June 2009.
The cause of this crisis has been a topic of much debate, and possible root causes include:
- Fraudulent or unscrupulous lending practices, leading to the subprime mortgage housing “bubble”
- Deregulation that allowed for subprime mortgages to be sold and resold as high-risk investments
- Fear of currency devaluation, leading to overinvestment in housing, creating the opportunity for the housing bubble in the first place
- Influx of foreign money fueling the housing bubble
Whatever the root cause, the U.S. market crash had global consequences. Economies all over the world suffered. As the saying goes, “When America sneezes, the world catches a cold.”
Once the economy began recording positive growth in 2009, meaning that the GDP increased from one quarter to the next, then recovery officially began. While leading indicators, such as stock market values and housing prices, had already begun improving, lagging indicators, such as unemployment, did not improve until later.
- The Great Recession was the worst economic period since World War II.
- The unemployment rate during the Great Recession reached 10%, the highest since 1982.
- “It’s a recession when your neighbor loses his job; it’s a depression when you lose your own.” — Harry S. Truman