GOOD SIDE OF RECESSION

TIME FOR CHANGE  & REFLECTION

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Recession

In economics, the term recession generally describes the reduction of a country’s gross domestic product (GDP) for at least two quarters.  The usual dictionary definition is “a period of reduced economic activity”, a business cycle contraction.

The United States-based National Bureau of Economic Research (NBER) defines economic recession as: “a significant decline in [the] economic activity spread across the economy, lasting more than a few months, normally visible in real GDP growth, real personal income, employment (non-farm payrolls), industrial production, and wholesale-retail sales.”

Attributes of recessions

In macroeconomics, a recession is a decline in a country’s gross domestic product (GDP), or negative real economic growth, for two or more successive quarters of a year.

An alternative, less accepted definition of recession is a downward trend in the rate of actual GDP growth as promoted by the business-cycle dating committee of the National Bureau of Economic Research. That private organization defines a recession more ambiguously as “a significant decline in economic activity spread across the economy, lasting more than a few months.” A recession has many attributes that can occur simultaneously and can include declines in coincident measures of activity such as employment, investment, and corporate profits. A severe or prolonged recession is referred to as an economic depression.

Speculation

Speculation (in a financial context) is the assumption of the risk of loss, in return for the uncertain possibility of a reward. Only if one may safely say that a particular position involves no risk may one say, strictly speaking, that such a position represents an “investment.” Financial speculation involves the buying, holding, selling, and short-selling of stocks, bonds, commodities, currencies, collectibles, real estate, derivatives, or any valuable financial instrument to profit from fluctuations in its price as opposed to buying it for use or for income via methods such as dividends or interest. Speculation represents one of four market roles in Western financial markets, distinct from hedging, long- or short-term investing, and arbitrage.

The economic benefits of speculation

The well known speculator Victor Niederhoffer, in “The Speculator as Hero” describes the benefits of speculation:

Let’s consider some of the principles that explain the causes of shortages and surpluses and the role of speculators. When a harvest is too small to satisfy consumption at its normal rate, speculators come in, hoping to profit from the scarcity by buying. Their purchases raise the price, thereby checking consumption so that the smaller supply will last longer. Producers encouraged by the high price further lessen the shortage by growing or importing to reduce the shortage. On the other side, when the price is higher than the speculators think the facts warrant, they sell. This reduces prices, encouraging consumption and exports and helping to reduce the surplus.

Another service provided by speculators to a market is that by risking their own capital in the hope of profit, they add liquidity to the market and make it easier for others to offset risk, including those who may be classified as hedgers and arbitrageurs.

If a certain market – for example, pork bellies – had no speculators, then only producers (hog farmers) and consumers (butchers, etc.) would participate in that market. With fewer players in the market, there would be a larger spread between the current bid and ask price of pork bellies. Any new entrant in the market who wants to either buy or sell pork bellies would be forced to accept an illiquid market and market prices that have a large bid-ask spread or might even find it difficult to find a co-party to buy or sell to. A speculator (e.g. a pork dealer) may exploit the difference in the spread and, in competition with other speculators, reduce the spread, thus creating a more efficient market.

GOOD SIDE OF RECESSION

The U.S. economy has been officially in a recession since December 2007 as significant decline in economic activity, triggered by the housing downturn starting in 2006, spread across the economy, lasting more than a few months. The economy contracted at a seasonally adjusted 0.5 percent annual rate in the third quarter of 2008.

 

For sure the recession is bad as it drives up unemployment. It has the good side though. Here are some benefits of the recession:

 

  • Unsupportable debts are being erased.
  • Inefficient businesses are wiped out.
  • Dying industries are being cleaned up.
  • Workers are exiting dying industries.
  • Consumers are rebuilding their savings
  • Consumers are lowering their living standards to match reality.
  • Asset prices, especially houses and stocks prices, are falling to or below their fair value
  • Assets taken away from weak hands and given to strong ones (through distress sales, foreclosures, and bankruptcies) create the conditions for future growth.

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