CURRENTLY THERE IS A LOT OF TALK about recession in the media. Many people believe a recession is on the horizon due to the drop in home values and the subprime meltdown; however, an economic recession is usually caused by many factors of the economy.
What is a recession? A recession is defined as two or more quarters of negative growth. The main litmus test for negative growth is a drop in the Gross Domestic Product, or GDP. Before an explanation of a recession or the GDP can be given, it is important to understand what an economy is and how it works.
The economy — in a broad sense — is the production, distribution, exchange and consumption of goods and services. In a free market, which we have in the United States, prices are not fixed and move freely based on supply and demand. Economic growth must take place each quarter and is measured by the gross domestic product or GDP.
For our economy to grow the GDP must increase annually. If growth stops for two or more quarters, the economy is thought to be in recession. The actual determination of recession is made by the Bureau of Economic Analysis — which is a part of the Department of Commerce — and is based on broad-based analyses of several economic indicators.
The effects of a recession are decreased production, higher unemployment, flat wages and declining consumer spending.
The word recession scares many people, but recessions are a normal part of the economy. Historically our economy goes through growth phases, which last between eight and 10 years. During these growth phases excesses build up which must be purged, and this purge takes place during a recession. During a recession, the economy is setting up for another growth phase and the cycle continues.
The last recession took place in 2001, which was partly caused by the technology dot com bust. Some experts believe that the meltdown of the financial markets — partly caused by the subprime meltdown — will lead this country into recession; however, others think that we are several years away from a recession.
Regardless of whether a recession is on the horizon, it must be remembered, although unpleasant, that recessions do not usually turn into more serious problems such as a depression. A recession is a normal part of the economic cycle and usually followed by several years of growth.
MIKE HEAYN is a Washington Mutual Multi- Family Loan Consultant. He (310) 428-1342, or e-mailed at
Originally published in the Santa Monica Daily Press print edition on January 9, 2008. Read the original PDF.