What Is Recession? Recession Definition & Causes

Many professionals and experts around the world believe that a true economic recession can only be confirmed if GDP (Gross Domestic Product) growth is negative for a period of two or more consecutive quarters.

The roots of a recession and its true starting point actually rest in the several quarters of positive but slowing growth before the recession cycle really begins. Often in a mild recession the first quarter of negative growth is followed by slight positive growth, then negative growth returns and the recession trend continues.

While the "two quarter" definition is accepted globally, many economists have trouble supporting it completely as it does not consider other important economic change variables. For instance, current national unemployment rates or consumer confidence and spending levels are all a part of the economic system and must to be taken into account when defining a recession and its attributes.

The agency that is officially in charge of declaring a recession in the United States is known as the National Bureau of Economic Research, or NBER. The NBER define's a recession as a “significant decline in economic activity lasting more than a few months.”

We often do not receive official word of an economic recession until we are several months into it as NBER must take time to calculate the multitude of variables available before making their decision. While economic recessions are foreseeable, they generally are not detected until already in motion.

It is actually more common than you might realize for countries around the world to experience mild economic recessions. Recession (or contraction) is a natural result of the economic cycle and will adjust for changes in consumer spending and consumption or increasing and decreasing prices of goods and labor.

Rarely though entirely possible, experiencing a multitude of these negative factors simultaneously can lead to a deep recession or even long economic depression.



Causes of economic recession

An economic recession is primarily attributed to the actions taken to control the money supply in an economy. The Federal Reserve is the agency responsible for maintaining the delicate balance between money supply, interest rates, and inflation. When this delicate balance is tipped, the economy is forced to correct itself.

The Fed sometimes deals with these situations by dumping huge amounts of money supply into the money market. This helps to keep interest rates low, even as inflation rises. Inflation is the rise in the prices of goods and services over a period of time. So, if inflation is increasing, it means that goods and services are costing more now than they did before. The higher the level of inflation, the smaller the percentage of goods and services is which can be bought with a certain amount of money. There can be many contributing factors for inflation, which include but are not limited to increased costs of production, higher costs of energy, and/or the national debt.

In an environment where inflation is prevalent, people tend to cut out things like leisure spending. They also budget more, spend less on things they usually indulge in, and start saving more money than they did. As people and businesses start finding ways to cut costs and derail unneeded expenditures, the GDP begins to decline. Then, unemployment rates will rise because companies start laying off workers to cut more costs, because consumers are not spending like they were. It is these combined factors that manage to drive the economy into a state of recession.

This set of circumstances, coupled with the ability of people to get access to greater amounts of loan money due to extremely lax loan practices, creates a cycle of unsustainable economic activity that will eventually grind an economy to a near halted existence. You could also say that a recession is actually caused by factors that might stunt the growth that is available from the short term benefits to an economy that can be brought about by such things like spiking oil prices or even war. And while these are very short term in nature usually, they have been known to correct themselves quicker than the full blown recessions that have happened in the past.




Effects of economic recession

Generally, an economic recession can be spotted before it actually happens. There are ways to spot it before it actually hits by observing the changing economic landscapes in quarters that come before the actual onset. You will still see GDP growth, but it will be coupled with signs like high unemployment levels, housing price declines, stock market losses, and the absence of business expansion. When an economy sees more extended periods of economic recession, it goes beyond a recession and is declared that the economy is in a state of depression.

The only real benefit of an economic recession is that it will help to cure inflation. In fact, the delicate balancing act that the Fed struggles to pursue is to slow the growth of the economy enough so that inflation will not occur, but also so that a recession will not be triggered in the process. Now, the Fed performs this balancing act without the help of fiscal policy. Fiscal policy is usually trying to stimulate the economy as much as is possible through such things as lowering taxes, spending on programs, and ignoring account deficits.