- A recession and a depression distinguish periods in which the economy fluctuates, but differ in severity, duration and overall impact.
- A recession is a decline in economic activity across the economy that lasts longer than a few months.
- Depression is an extreme economic downturn, and there has been only one in US history: the Great Depression, which lasted from 1929 to 1939.
- You can find more stories on the Business Insider homepage.
Economic downturns are a bad time for everyone. You may be worried about losing your job and paying your bills, or be alarmed if your mutual funds lose money.
While you've probably heard the terms "recession" and "depression", you may not know what they actually mean. And more importantly, what's the difference between the two.
To help you better understand and prepare for the twists and turns of an economic crisis, you need to know the following about the difference between a recession and a depression.
What is a recession?
An economic recession is often defined as a decline in real gross domestic product (GDP) in two consecutive quarters – but it's not that simple.
The National Bureau for Economic Research (NBER), the centuries-old nonprofit organization that sets the start and end of recessions in the United States, takes a broader view. The group defines recessions as "a significant decline in economic activity that spans the entire economy and lasts more than a few months" with indicators such as:
- Decline in real GDP
- Real income decline
- Unemployment rise
- Slower industrial production and retail sales
- Lack of consumer spending
The NBER's view of recessions takes a more holistic view of the economy, which means that recessions are not necessarily defined by a single factor.
There have been almost 50 recessions in history, from the copper panic of 1789 to the Great Recession in 2008. Recessions were widespread during the 19th and early 20th centuries.
There were only 10 recession cycles between 1945 and 2001, which is far less than in similar periods in the past. Some economists use this as evidence that the business cycle has become less volatile.
Although they occur more or less regularly and indicate a cyclical economic cycle, the duration, economic impact and triggers of recessions can vary widely.
The inverted yield curve: a trustworthy recession predictor
There are many indicators that experts use to predict when a recession can occur, and the most reliable is an inverted yield curve.
As a rule, the interest rates for short-term loans are lower than the interest rates for long-term loans. This is partly because short-term credit is seen as a riskier investment for lenders, and partly because inflation is built into interest rates.
For example, $ 1,000 today will not be as valuable as $ 1,000 in 10 years, and higher interest rates are trying to improve it. Reversing this model can be a sign of a deteriorating economy as it shows that there is less confidence in the long run than in the short run.
An inverted yield curve is worrying the market because it means "an expectation of low inflation accompanied by economic downturns," it says Laura Ullrich, Regional economist at the Federal Reserve Bank of Richmond, added that reverse yield curves signal that people are "looking for safer places to invest their money".
An inverted yield curve has predicted every recession since 1955, and it should be noted that the 2019 curve has inverted. Ullrich warns that there were other economic forces abroad that caused the recent inversion.
"We are in a situation where it will look as if it has predicted again, but the economic crisis we are in is from a completely different place," says Ullrich. "I wouldn't really believe the fact that the reverse yield curve predicted what was going to happen last year."
What is depression?
Economic depression is usually understood as an extreme decline in economic activity over several years, but the precise definition and specification of depression is less clear.
"The way people think it is depression is a widespread and more severe recession," Ullrich said officially in a depression. & # 39; "
The NBER notes that economists differ in the period that describes depression. Some experts believe that depression only lasts when economic activity declines, while the more general understanding is that depression continues until economic activity is close to normal.
The difference between a recession and a depression
Recessions and depression have similar indicators and causes, but the main differences are severity, duration, and overall impact.
Depression tends to last for years rather than months and usually leads to higher unemployment and a greater decline in GDP. And while a recession is often confined to one country, depression is usually so severe that it affects global trade.
Because economists have no fixed definition of depression, the public sometimes uses it synonymously with the term recession. However, there was only one depression in the USA: the Great Depression of the 1930s, which lasted for 10 years.
What caused the Great Depression?
The Great Depression was one of the worst economic downturns in history from 1929 to 1939. It started in America as a recession in 1929 before expanding worldwide, particularly in Europe.
As with any long-term economic crisis, there was not just one event that led to the Great Depression, but a series of events, including the stock market crash of 1929 and the severe drought of the Dust Bowl in the 1930s.
The economy was already down in the summer before the crash. Unemployment rose and manufacturing fell, making stocks overvalued. Then known as October 24th "Black Thursday" Investors sold nearly 13 million shares, signaling to consumers that their lack of trust was right. Expenditure came to a standstill, debts rose, houses were sealed off, and banks began to fail.
The stock market crash in October 1929 triggered a panic that led to a sharp decline in consumer spending and investment, which led to a decline in manufacturing, which led to increased unemployment and most of the country's banks failed.
The current financial landscape
Between 1929 and 1939, President Franklin D. Roosevelt passed numerous laws to stabilize the economy. He founded the FDIC to protect consumer bank accounts. The SEC was created to regulate the stock market, and the Social Security Act guaranteed pensions for Americans and set up an unemployment insurance program.
The programs and reforms launched in response to the global economic crisis were launched with the hope that an economic downturn of a parallel magnitude is unlikely to repeat itself.
So could we go into another depression? With the COVID-19 pandemic putting the US into recession, the next phase could be anyone's guess. However, there were worrying signs.
In July 2020, Department of Commerce data showed the U.S. economy had the worst quarterly slump ever. US GDP fell 33% annually in the second quarter of 2020, with no other downturn in history (including the Great Depression) causing such a sharp decline in the economy.
Nevertheless, according to Ullrich, there is reason to hope:
"2007-2009 was different because much of the crisis started at financial institutions. This sector was immediately hit, and because of some of these factors, it could not respond as the economy needed … The good news is that the financial system "The fundamentals of the economy have been strong in the current crisis we are facing."