Reasons and Effects of Recession

18 Apr 2023

Hi everyone,

Today, I am here with informative content. Let me start by saying that it will be a bit long, but let's learn what "Recession" means in detail.

🚩Recession can be defined as an economic downturn period. It is generally characterized by a decline in the gross domestic product (GDP) of a country in one or more quarters. Recession is associated with a series of economic indicators, such as rising unemployment rates, a decrease in consumer spending, and a general slowdown in economic activity.

🚩Recessions usually occur as part of the economic cycle and move with periods of economic growth. Some recessions may be shorter and less severe, while others may be longer and more severe. Recessions are generally attempted to be alleviated through economic incentives such as monetary policy, tax cuts, or increases in government spending.

🚩During a period when the economy slows down in general, financial markets are also affected. Recessions affect the prices of assets such as stocks, bonds, and commodities. Below are some examples of how recessions affect money markets:

🏳️Stocks: Stock prices usually decline during recession periods. Since the profitability of businesses decreases, investors tend to sell stocks as they expect a decrease in the company's future earnings potential. Therefore, during recession periods, there are often declines in stock markets.

🏳️Bonds: During recession periods, bonds usually have more demand. This may be due to investors turning to a safer investment. Bond interest rates may decline, and some investors may turn to safer but lower-yielding bonds from higher-risk assets.

🏳️Gold and other commodities: Gold and other commodities usually have demand during recession periods. This may be due to investors looking for a safer haven. Gold is a widely used "safe haven" asset worldwide, and its price usually rises during recession periods.

🏳️Currencies: Exchange rates between currencies can also change during recession periods. For example, currencies of countries with slowing economies usually decline, while currencies of countries with stronger economies usually become more valuable.

🚩The 2008 global financial crisis was triggered by a collapse that began in the US mortgage market. This collapse started when mortgage lenders turned high-risk mortgage loans into high-risk debts by commercializing them. Mortgage debts were then packaged with various debt instruments and sold in financial markets by investment banks. The collapse of debt instruments resulted in unpaid mortgage debts, a decline in house prices, and more homeowners facing financial difficulties. This situation turned into a mortgage crisis that began in 2007 and lasted until the middle of 2008.

🚩FED made several statements in the early 2008 indicating that there was a "mild recession" in the US economy. However, the FED failed to take necessary precautions for the collapse of the mortgage market to turn into a crisis.

One reason why FED could not take necessary precautions for the collapse of the mortgage market to turn into a crisis was due to the loose regulations of financial institutions in the US and permission to finance risky debts with high leverage. Therefore, the statements made by FED in early 2008 could have been made to maintain market confidence.

🚩However, towards the end of 2008, the mortgage crisis deepened and turned into a global financial crisis, which resulted in many financial institutions going bankrupt, unemployment rates rising, and a significant decline in the world economy.

As a result, the statements made by FED in 2008 were based on the assumption that the mortgage crisis would result in a less severe recession. However, this assumption did not come true, and the mortgage crisis turned into a global financial crisis. These events have shown that regulatory institutions need to closely monitor risks in financial markets and complexity in debt instruments.

Similarities and Differences:

🚩We can say the following about the similarities and differences between the 2008 global financial crisis and a potential crisis:

Similarities:

• Both the 2008 crisis and a potential crisis could begin with a collapse in financial markets.
• Both crises can affect many economic sectors and countries.
• Crises usually cause a decline in economic activity and a rise in unemployment rates.
• Both crises may require central banks to intervene through monetary policies by lowering interest rates.

Differences:

• The 2008 crisis began with the collapse of high-risk loans in the mortgage market. The start of a potential crisis may depend on a different cause or event.
• The 2008 crisis resulted in the bankruptcy of many financial institutions. In a potential crisis, the situation of financial institutions or the structure of financial instruments may be different.
• The 2008 crisis turned into a global financial crisis. The magnitude of a potential crisis will depend on how widespread the crisis is, which sectors are affected, and whether the crisis has a global impact.
• In a potential crisis, countries' economic structures and policies before the crisis may have a different impact on the severity and duration of the crisis.

🚩In conclusion, any economic crisis cannot be predicted in advance, and we cannot know its definite results beforehand. However, by looking at the causes and consequences of past crises, we can say that uncertainty and fluctuations in financial markets and economic activity are significant during crisis periods.

Possible Impact on Cryptocurrencies:

🚩Predicting the impact of a potential recession on cryptocurrency assets and Bitcoin is a difficult issue. However, in case of uncertainty in financial markets and investors avoiding risky assets, it is possible for cryptocurrencies to lose value. On the other hand, Bitcoin and other cryptocurrencies may act as a safe haven asset, especially in times of economic turmoil, and may increase in value.

Differences Between Technical Recession and Real Recession

🚩Technical recession is a situation where the economy has a declining growth rate for a certain period (usually a quarter or more). In this case, a country's economy shows a decline for two consecutive quarters. Technical recession is generally considered an indicator of an economic downturn period.

🚩Real recession, on the other hand, is an economic downturn period where economic indicators such as rising unemployment rates and decreasing consumer spending sharply decrease. One of the most important determinants of a real recession is the unemployment rate in an economy. When unemployment rates rise in an economy, the purchasing power of the unemployed people decreases, and as a result, consumer spending declines.

🚩The difference between the two terms is that technical recession only refers to a two-quarter economic downturn period, while real recession refers to more extended, usually more severe, and more serious economic problems such as an increase in unemployment.

Let's Take a Look at the 2001 and 2008 Crises

🚩In the past, the US economy entered a technical recession several times, but also experienced real recessions. For example, in 2001, the US economy shrank for two quarters, and technically, a recession occurred. However, the main reason for this economic downturn was the burst of the high-tech bubble. Therefore, the contraction in the economy was only caused by a temporary factor, and there was no significant change in other economic indicators.

🚩However, after the 2008 financial crisis, the US economy went through a more severe recession. This crisis was caused by subprime mortgages and other risky financial instruments. The crisis led to significant losses in financial markets and the bankruptcy of major banks. As a result, economic growth slowed down, unemployment rates increased, and consumer spending declined. This situation was evaluated as a real recession, and the US economy struggled to recover for a long time.

🚩The Fed has taken various steps to address technical and real recessions in the US economy by regulating interest rates and using monetary policy tools. For example, after the 2008 financial crisis, the Fed reduced interest rates to zero and tried to support financial markets using monetary policy tools. These steps helped the economy to recover, and the US economy started to grow again.

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