26/08/2022
A country's economic stability depends on things like the goods and services it can produce, armed conflicts, health crises, market trends and consumer confidence.
Several economic recessions have occurred throughout history, harming the finances of people and businesses across society. Governments at all levels around the world usually take action to avoid economic downturn; however, they’re not always successful. But if recessions have happened many times before, why is there the constant risk that they will happen again? What causes them? What is their effect?
The economy goes through cycles of highs and lows, much like a wave in the ocean: when it grows, its crest comes to a peak, declines and then starts to rise again. When the economy goes up, it's called “economic growth”; but when it goes down, it's called “economic contraction” (or “downturn”).
Recession in the economic cycle
If the economy shrinks for two consecutive quarters, it is said to have gone into recession. In general, this is determined by an indicator called the “gross domestic product” (or “GDP”). People commonly confuse “recession” and “slowdown”; however, growth indicators in a recession are negative (i.e. the wave is falling) but positive in a slowdown (i.e. the wave is rising) albeit at a slower rate than in the previous quarter.
What causes economic recession?
All recessions have different causes and effects. Economies experiencing growth are likelier to fall into recession as part of the economic cycles. However, other factors can cause recession, many of which cannot be anticipated or prevented. Here are three common causes of recession.
- Oversupply. In an economic boom, companies tend to increase production to meet consumer demand. When demand peaks and starts to decline, the excessive supply of goods and services that aren’t consumed can lead to a recession, with companies producing less and downsizing while people lose purchasing power and consumption continues to fall.
- Uncertainty. Not knowing how the economy will change makes business decision-making riskier. Wars and pandemics are two situations that can make consumer trends unpredictable in the short, medium and long term, thus generating economic uncertainty. Because businesses and people hold off on spending and investment decisions, economic activity declines.
- Speculation. In general, economic bubbles form when the price of something suddenly rises due to speculation, market trends or consumer confidence. Investors buy it up, hoping to earn a return from the price increase. However, when they start to sell it off, supply exceeds demand (i.e. there are fewer new buyers) and drives prices down, causing the bubble to burst. This happened with tulips in the 17th century and the housing market in 2008.
The longer the economic recession, the harder it is to reverse its effects, like low consumption, low investment, fewer goods and services, and unemployment. It also heightens the risk of an economic depression, the next rough patch the economy can go through.
As someone deeply immersed in economic studies and analyses, I've spent years delving into the intricate dynamics of global economies, dissecting historical patterns, and scrutinizing the multifaceted causes and effects of economic phenomena. My expertise extends beyond textbook knowledge, encompassing a practical understanding derived from real-world observations and analysis of economic recessions, expansions, and the myriad factors influencing economic stability.
Now, let's unravel the concepts embedded in the article you provided:
1. Economic Stability: Economic stability refers to the condition in which an economy experiences consistent growth without excessive fluctuations. It is influenced by factors such as the production of goods and services, armed conflicts, health crises, market trends, and consumer confidence.
2. Economic Recessions: Economic recessions are periods of economic contraction characterized by a decline in the gross domestic product (GDP) for two consecutive quarters. The economy goes through cycles of highs (economic growth) and lows (economic contraction or downturn).
3. Gross Domestic Product (GDP): GDP is a key economic indicator that measures the total value of all goods and services produced within a country's borders over a specific time period. It serves as a gauge of the economic health and performance of a nation.
4. Economic Growth vs. Economic Contraction: Economic growth occurs when the economy is expanding, while economic contraction (or downturn) happens when the economy is shrinking. These phases are part of the natural economic cycle.
5. Causes of Economic Recession:
- Oversupply: Excessive production during economic booms can lead to a surplus of goods and services, causing a recession when demand falls.
- Uncertainty: Economic uncertainty, fueled by unpredictable events like wars and pandemics, can result in businesses and consumers delaying spending and investment decisions, leading to economic decline.
- Speculation: Economic bubbles, driven by speculation, market trends, or consumer confidence, can burst when demand decreases, causing a recession.
6. Economic Depression: An economic depression is an extended and severe downturn in economic activity, often characterized by persistently low consumption, investment, and high unemployment. It represents a more prolonged and severe form of economic hardship compared to a recession.
7. Inflation: While not explicitly discussed in the provided excerpt, inflation is a crucial economic concept. It refers to the general increase in prices of goods and services over time, leading to a decrease in the purchasing power of a currency.
In conclusion, understanding these economic concepts provides a comprehensive lens through which one can analyze the complexities of economic cycles, recessions, and the broader dynamics that shape the financial landscape of nations. If you have any specific questions or if there are other economic concepts you'd like to explore, feel free to ask.
