Recession and unemployment seem to go hand-in-hand. For many individuals, unemployment describes their primary experience of a recession, as they are laid off or unable to find work. The two concepts are so closely linked in people’s minds, that many people feel some confusion about the relationship between them. Does a recession cause unemployment? Or does widespread unemployment cause a recession? Or are the two actually not correlated except in the imagination?
The simplest answer is that recessions cause unemployment. At the same time, once people become unemployed, they have less money to spend on goods and services. So, a recession in a certain sector of the economy can cause unemployment, and that unemployment can cause a recession in a different part of the economy. While the simple answer may be that recessions cause unemployment, the relationship between recessions and unemployment is complex.
Let’s take a deeper look at just how the relationship between economic recession and unemployment works.
This image helps in understanding the cause and effect of major events and how did our unemployment rate impact!
Are Unemployment & Recession Related?
Let’s first review a simple definition of what an economic recession is. The National Bureau of Economic Research, which is a non-profit, non-partisan research organization, defines a recession as: “A significant decline in activity spread across the economy, lasting more than a few months, visible in industrial production, employment, real income, and wholesale-retail trade.” As economic activity of all kinds declines, businesses lose revenue, which forces them to lay off workers. This is how a recession leads to an increase in the unemployment rate.
As hinted at earlier, there are some ways in which the recession-causes-unemployment relationship is more complicated. For one thing, a rise in unemployment can itself trigger a downward spiral that deepens and prolongs a recession. Higher unemployment leads to a drop in consumer spending. This leads to further slowing of economic activity and growth, which in turn leads to more layoffs and the creation of fewer jobs.
Going beyond issues of causality, it’s important to recognize that the economy proceeds in cycles, meaning that investment/growth, unemployment, and inflation all go up and down in relation to one another. We can understand this cycle to have four phases.
Business activity is at its maximum, which involves a minimum of unemployment and high inflation.
A recession begins, with a decline in total output, a rise in unemployment, and a drop in inflation.
The recession hits its bottom, the unemployment rate rises to a maximum, and inflation is at a low point.
The economic recovery begins, unemployment begins to fall, and inflation once again begins to rise.
An Investopedia article does a great job in explaining the relationship in dept, click here
Overview:
Recessions, by definition, put a significant strain on almost all businesses. This in turn puts a terrible strain on individuals. The unforeseen disaster of the coronavirus has many experts predicting that unemployment rates will exceed the highest rates seen during the Great Recession, and possibly even the Great Depression. Most American businesses are facing a challenge unlike any they have faced before. If small businesses want to stay afloat, they are going to have to explore every possible option to stay afloat. This starts by prioritizing the preservation of liquidity above all else.
So have we been seeing a housing market crash due to this same cause and effect, to be continued...
By: Sunny Wadhwani
Aug 21st, 2022.
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