What are the Causes of Recession?
A recession is a period of economic decline that lasts for at least two consecutive quarters. A recession can have negative impacts on businesses, consumers, workers, and governments. But what causes a recession? There is no simple answer to this question, as different factors can trigger or contribute to a recession in different contexts. However, some common causes of recession are:
- Demand shocks: A sudden and unexpected drop in the demand for goods and services can cause a recession. For example, a global pandemic, a natural disaster, a war, or a terrorist attack can reduce consumer confidence and spending, leading to lower profits and incomes for businesses and households. A demand shock can also affect specific sectors more than others, such as tourism, hospitality, or entertainment.
- Supply shocks: A sudden and unexpected disruption in the supply of goods and services can also cause a recession. For example, an oil embargo, a trade war, a labor strike, or a crop failure can increase the costs of production and reduce the availability of inputs, leading to higher prices and lower output for businesses and consumers. A supply shock can also create inflationary pressures and reduce the purchasing power of money.
- Financial crises: A collapse or instability in the financial system can trigger or worsen a recession. For example, a banking crisis, a stock market crash, a debt default, or a currency crisis can erode the trust and confidence in the financial institutions and markets that facilitate the flow of money and credit in the economy. A financial crisis can also reduce the access to financing and liquidity for businesses and households, hampering their ability to invest and consume.
- Policy mistakes: A poor or inappropriate policy response by the government or the central bank can also cause or prolong a recession. For example, a fiscal policy that is too tight or too loose can create budget deficits or surpluses that affect the level of public spending and taxation in the economy. A monetary policy that is too restrictive or too expansionary can affect the interest rates and the money supply that influence the cost and availability of credit in the economy. A policy mistake can also create uncertainty and unpredictability for businesses and consumers, affecting their expectations and decisions.
These are some of the main causes of recession, but they are not exhaustive or mutually exclusive. In fact, many recessions are caused by a combination of factors that interact and reinforce each other in complex ways. Moreover, different economies may have different vulnerabilities and sensitivities to these factors depending on their structure, institutions, history, and culture. Therefore, understanding the causes of recession requires a careful analysis of the specific circumstances and conditions of each case.