Cash Flow & Forecasting Finance General Uncategorized

What is the difference between a Depression and a Recession?

recession and depressionBoth a recession and a depression are characterised by an economic decline but the difference between them is down to the length of their duration with depressions lasting years.
An economy is defined as being in recession when there have been two consecutive quarters in which growth as measured by GDP (Growth Domestic Product) has contracted.
This is usually caused by a reduction in business activity and consumer confidence, such that businesses may start laying off employees and cutting back on production and on investment as their focus shifts almost entirely to their cash flow and balance sheet.
In the most recent recession, in 2008, the precipitating factor was a liquidity crisis that began in the USA where banks had lent what was perceived to be too much money on what came to be seen as risky mortgages on which borrowers then defaulted. This resulted in a loss of confidence in banks, which declined to lend to each other which in turn led to a liquidity crisis.
Recessions are much more frequent than are depressions, indeed, according to an article in Business Leader in March this year: “In the past 100 years, there have been dozens of recorded recessions (both national and international) – compared to just one depression in the same time period.”
The last depression was in the USA beginning in 1929 and lasting for a whole decade. While not strictly defined, a depression is characterised by very high levels of unemployment such as 25%, a dramatic fall in international trade such as by as much as two-thirds, and prices falling by more than 25%. They are also characterised by significant declines in stock market values and a large numbers of bankruptcies.
There has been some speculation that the Coronavirus pandemic could precipitate a depression given how much economic activity has ceased as a result of the lockdown rules imposed by many countries. However this is simply speculation and the short term nature of its impact is unlikely to be the sort of once in a one hundred years event that causes dramatic and long term economic collapse.
The IMF (International Monetary Fund) has warned that the situation could provoke a recession as severe as in 2008 but none of the serious pundits are predicting a depression.
In fact, some economists argue that a repeat of 1929 could not happen because Central banks around the world, including the USA’s Federal Reserve, are more aware of the importance of monetary policy in regulating the economy and will therefore step in with support and stimulus packages to forestall this.