U.S. Economy Enters Recession — But What Does This Mean?

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The longest economic expansion in U.S. history officially ended when the National Bureau of Economic Research (NEBR) recently uttered the dreaded “R” word — officially declaring that we’ve entered a recession. According to NEBR, the 128-month expansion peaked in February and the economy has been sliding into recession ever since.

Of course, the current recession has been caused mainly by the devastating economic effects of the coronavirus pandemic. In making the announcement, NEBR cited the “unprecedented magnitude of the decline in employment and production, and its broad reach across the entire economy.” 

Defining a Recession

The term “recession” might be the most misunderstood economic term in use. So what exactly does it mean when the economy enters a recession?

Recessions are officially declared by the NEBR’s Business Cycle Dating Committee, a group of economists who meet regularly to assess the health of the U.S. economy. Several different factors are considered by the committee, but the main one they use to declare a recession is gross domestic product, or GDP. 

Specifically, the economy is considered to have officially entered a recession when GDP declines for two consecutive quarters. So while February was identified as the month when the expansion peaked and the recession began, the quarterly peak was reached at the end of 2019. The U.S. economy contracted by 5% in the first quarter and a record-shattering 33% in the second quarter of this year.

According to the World Bank, there have been 14 global recessions since 1870 with the last one occurring during the financial crisis of 2008-2009. The World Bank projects that the current pandemic-driven recession will be the worst recession since World War II.

Recession vs. Depression

You might be wondering how a recession differs from a depression. Unlike recessions, depressions aren’t officially declared by NEBR. Instead, they are observed after the fact as long periods of high unemployment and ongoing economic contraction. Depressions are very rare, with the last one being the Great Depression of the 1930s when unemployment peaked at 25%. 

Unemployment neared 15% in April but has since dropped to about 10%, nowhere near what it was during the Great Depression. We won’t likely be able to tell whether the current downturn is a recession or depression until well after it has concluded.

Effects of a Recession

Aside from semantics and statistics, what are the practical effects of a recession on individuals, families, businesses and investors? For one thing, the declaration of a recession tends to have an emotional and psychological effect. It became obvious that the U.S. economy was in serious trouble as soon as the pandemic lockdowns began in the spring and the mass business closures and layoffs started. However, the official recession announcement still hit many people and businesses hard.

The official announcement of a recession can change the outlook for many businesses and affect their decisions about growth plans and inventory purchases, which in turn can affect GDP going forward. It can also spook the financial markets — for example, the Dow Jones Industrial Average plunged nearly 700 points on the day the last recession was declared in late 2008. 

And a recession announcement can prompt individuals and families to save more and spend less in anticipation of tough times, which can also depress GDP. For example, the savings rate in the U.S has soared to over 25% during the pandemic. While this can be viewed as good news, it also tends to lower GDP because economic growth relies heavily on healthy consumer spending.

How Long Will the Recession Last?

While no one has a crystal ball to know for sure when the current recession will end, there are some encouraging signs. One of them is the improving employment situation as the unemployment rate has declined steadily since April. 

More than 9 million new jobs have been added over the past three months as pandemic lockdowns have eased and many businesses allowed to reopen. This represents nearly half of the jobs that were lost in the spring when the lockdowns began.

Also, many economists expect a strong GDP bounceback relatively quickly. For example, Kiplinger is forecasting a GDP rise of 15% in the third quarter and a growth contraction of 5.8% for this year. Kiplinger believes it will be 2022 before the U.S. economy returns to where it was at the end of last year.

Give us a call if you have more questions about the economy and its impact on your investing portfolio and strategies.


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