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When does a recession become a depression?

   In the after work get togethers on Capitol Hill, or in the serious Washington briefings on the economy, there is a term that is occasionally alluded to but almost never said out loud.  Sometimes it’s simply referred to as the “d word.”  It sounds better that way.  That’s because no one wants to say or even hint at the prospect that America may be headed for an economic depression.  And who can blame them.
   However, there is one problem with this discussion.  When it comes to economics and studying the American economy, no one is quite sure where a recession ends and a depression begins.  
Before World War II we didn’t even use the word recession.  Instead, any economic downturn, no matter how modest, was called a depression.  With that definition, we had lots of depressions well in advance of the big one in 1929.  
   There was a serious economic downturn in the 1890’s, another in 1909, and another just after World War I.  Economic data in those periods wasn’t as closely tracked as it is today.  Unemployment data, for example, was a best guess estimate and there was no such thing as a consumer confidence index.  However, most of these downturns, using modern day definitions would probably be called recessions.
   The accepted definition of a recession is two quarters, back to back, when the Gross Domestic Product (GDP) contracts.  In the U.S. we have been in one for a year now with the most recent GDP downturn reaching 6.2%.  However, economists don’t necessarily like this definition because it covers too much time.  Our economy can be in a severe downturn long before it’s officially labeled a recession.
   Secondly, it’s a definition that’s too dependent on just one indicator.  Many think that unemployment and consumer confidence should factor in as well.  Right now, both indicators, with unemployment at 7.6% and growing, and consumer confidence at its lowest since the survey began, are strong indicators of just what kind of downturn we’re facing.
   But, what about a depression?  When does a recession become a depression?  
One definition, and though not universally accepted is nonetheless a good rule of thumb, is that if the GDP dips by more than 10% we’re in a depression.  Under that definition, thank goodness, we have a ways to go.  
   The United States hasn’t seen this kind of decline since the 1930’s, but other countries, in modern times, have.  Japan, one of the world’s largest economies, saw its fourth quarter 2008 GDP decline at an annualized rate of 12.7%.  That’s a staggering drop and if it keeps up Japan will soon be in a full fledged economic depression.
   Russia, in the 1990’s easily met this definition.  Just after the fall of communism Russian GDP fell by over 50%.  By 1993 unemployment was at nearly a third of the workforce and government receipts in taxes were so low that the new federal government couldn’t pay its bills.     To deal with the situation they printed currency which forced the value of the ruble so low that a barter economy rose to take its place.  That’s a real economic collapse.
   However, perhaps the best benchmark is our own Great Depression.  But even then this example isn’t as straightforward as some people recall.  The Depression was actually two big declines.  Not just one.  In 1929, with the stock market crash representing the opening act of an economic meltdown, the GDP began a decline that lasted almost four years.  
   By 1932 output was slightly more than half of what it had been in 1929.  Unemployment is estimated to have been 25%, but was probably more.  However, the economy, mostly thanks to the New Deal began a recovery in 1933.  That helped get FDR reelected in a landslide in 1936.  
   But in 1937 Roosevelt backed away from the heavy pump priming of his first term and this started another economic downturn.  This represented what some have labeled a “second” depression that lasted from 1937 to 1938.  
Unemployment surged and the GDP fell by more than 10%.  It was only spending for armament purchases by the Allies, Lend-Lease and our eventual entry into World War II that truly ended the depression.
   Any definition of a depression, particularly in a highly complex economy like ours, needs to be qualified.  It also needs to include an analysis of the fundamental strength of key institutions.  This is where comparisons between the 1930’s and today start to become uncomfortable.  
   During the Great Depression there was more than a decline in demand.  There was also, and it can be argued that we’re teetering on the brink of this today, a collapse in the credit markets.  Banks failed on a massive scale.  Lines of credit, loans, and what limited mortgage market there was in those days, completely dried up.
Another factor in deciding whether we’re in a depression is just how long it lasts.  A downturn can be sharp, but if it’s short, it will probably avoid the moniker of being labeled a depression.  
   That’s some of the thinking behind the stimulus bill.  Historically government spending has been useful in stemming economic downturns.  But this is a big economy, much bigger and more complex than it was in 1933, and whether or not the spending contained in the $780 billion stimulus bill is large enough and contains the right components to revive a $14 trillion economy is still a big question.  
   However, hopefully, the economy will revive, or at least not dip too low and the term depression will be one that doesn’t become the official label for the current economic crises.
   You may contact David Kerr at This email address is being protected from spambots. You need JavaScript enabled to view it.


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