A Recession Primer—Just in Case

We aren’t forecasting a recession, but we do know one is coming…eventually.  The last recession ended in June, 2009, nearly 10 years ago. The one before that ended in November, 2001. Unless a new one pops up before July, we will be in the longest post-World War II economic expansion on record.

Consider this: college graduates who are now nearing the age of 40 have only experienced one recession (albeit a big one) since embarking on their careers. All in all, we think this a good time to dust off our recession primer.

First, what exactly is a recession?  As Charles Schwab Chief Investment Strategist Liz Ann Sonders noted in a recent blog post, the National Bureau of Economic Research defines it as “a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale retail sales.” 

Okay, that was a mouthful. But it’s important to note that this definition runs counter to the oft-quoted notion that recessions are defined by two consecutive negative quarters of gross domestic product (GDP). As Sonders mentions, the U.S. has experienced recessions that did not include back-to-back negative GDP quarters, so it’s time to move on from that faulty definition.      

Now, some context. Since 1945, the average recession has only lasted an average of 10.8 months. Since investors often live in fear of the next recession, it’s reassuring to know they generally come and go rather quickly.

Of course, the stock market does not think much of recessions.  But it’s worth noting that bear markets (a period when stocks have fallen by 20 percent or more from their highs) often lead recessions, rather than follow them. This has been the case on nine separate occasions since the Second World War. There have also been plenty of instances where bear markets have come and gone without resulting in a recession.

One important recession indicator is the unemployment rate.  Employment often declines during a recession, but not before. So while there is a correlation between increased unemployment and recessions, the job market is not considered a leading recession indicator. So how do you know when the next recession will occur? You don’t. That’s why it’s a good idea to learn more about how recessions work and what to expect when the inevitable happens.  Sonders’ analysis is a good place to start.