A recession is a period of economic decline that typically lasts more than a few months and encompasses declining activity in industries that produce goods, services, and jobs. It is typically characterized by rising unemployment, falling gross domestic product (GDP), and reduced consumer and business investment. The National Bureau of Economic Research defines a recession as “a significant decline in the overall level of economic activity that spreads across sectors and lasts more than a few months.”
Several factors can trigger a recession. One of the most common causes is an overabundance of debt in both households and businesses. When household and business debt exceeds income, consumption decreases, and companies may stop investing in new products. The loss of demand reduces companies’ profits, which causes them to lay off employees, further reducing consumer spending and the economy.
Another factor is uncertainty about the future of the economy. When people don’t know how the economy will change, they are less likely to spend or invest. Uncertainty can be caused by global events, like wars or pandemics, or domestic events, such as a bear market that erodes the wealth of individuals and corporations.
Lastly, a recession can be caused by a rise in interest rates that makes it more expensive for consumers and businesses to pay their loans. This can be a direct result of monetary policy (such as when central banks raise rates in an attempt to slow inflation) or by a natural reaction to an economic shock, such as when oil prices increase and lead to higher energy costs.