Vol. 38, No. 18

1-7-2009
By:

Ask the Expert, 1/8/09

What exactly is a recession and is the US currently experiencing one?
A recession is any period when economic activity declines for six or more consecutive months. Economic activity is defined as Gross Domestic Product (GDP), after accounting for inflation. GDP is the dollar value of newly produced goods in a country. Another common definition, which is specific to the US and relatively recent, is that a recession has occurred when an appointed committee of several economists, mostly professors, say that a recession has occurred. This committee’s criterion is similar to the one above, but the committee looks at more evidence than just GDP to decide whether economic activity has declined. Also, the committee does not strictly adhere to a “six month” minimum. Still, the two approaches (the committee’s judgment and the “six month rule”) usually give similar answers as to when a recession has occurred. According to the committee, the US is currently in a recession. Every indication is that the US also is in a recession according to the “six month rule.” However, we await the end of this month for full 2008 GDP numbers to be released to know for certain.

What’s the difference between a recession and a depression?
A depression is a very severe recession, either in terms of duration or a particularly steep economic decline.  There is no well-accepted minimum month (e.g., 12, 24, etc.) requirement for depressions. Also the committee that judges recessions does not also judge whether the economy is in a depression. Depressions happen so rarely and are so severe relative to typical recessions that economists have not spent time setting an exact demarcation between the two. To give you an idea of severity, the unemployment rate neared 25 percent in the only depression the US has experienced in the last 90 years. The highest unemployment rate during any recent recession was only 11 percent, in the early 1980s. 

How does this recession compare to previous ones?
This recession is, thus far, typical in terms of standard measures. For example, the current unemployment rate is slightly less than 7 percent, which is about par for the recession course. The hard question is, looking forward, how much worse will the situation become?

Some people have called this recession a perfect storm. Does that mean it is capable of becoming a depression, and, if so, what might that look like?
I had not come across the “perfect storm” metaphor before. I doubt the current recession will become a depression: With a 70 percent decline in the stock market, a 25 percent unemployment rate and a 40 percent drop in industrial production, which all occurred in the 1930s. If I had to construct a depression scenario, though, it would involve a continued stock market decline. Seeing their retirement savings in the form of IRAs, 401(k)s and 403(b)s dwindling, Americans might further cut back current spending on durable goods and new houses. This, in turn, would make things even worse. A depression would also probably require a major policy mistake, beyond those already made, by the Fed or Congress and the president.

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