Recession vs. Depression: What's The Difference And Which One Are We Headed Toward?

Although there are some people who still remember the Great Depression firsthand, most of us have to rely on history books and stories from our grandparents to know what life was like during the greatest economic downturn in modern history. But given the severe impact the coronavirus pandemic has had on businesses and workers around the world, it’s less difficult to imagine it happening again.

Nonessential businesses have been forced to shut down operations, some of which declared bankruptcy or plan to go out of business as a result. Tens of millions of Americans are out of work, many of whom can’t afford to pay their rent or mortgages and other living expenses. Schools are closed, and struggling parents are now forced to juggle family finances, child care and homeschooling.

In other words, it’s a mess out there. And many people are wondering if this downward slide will stop at a recession, or worse, cause a depression. But what does that actually mean? Here’s a look at the difference between a recession vs. depression, and which one is most likely to happen.

Definition Of A Recession

At a high level, a recession is defined as a period of economic decline within a certain region. More specifically, the most common marker of a recession is two consecutive quarters of negative economic growth, as measured by the gross domestic product, or GDP. 

However, there are other common indicators as well, such as high unemployment and negative impacts on trade, industrial output, credit availability, the stock market and other variables that measure the health of an economy, according to Ibrahim Shikaki, an assistant professor of economics at Trinity College.

Though it sounds dire, Shikaki explained that economic recessions are actually a normal part of the business cycle in most cases. In fact, since 1900, we’ve experienced a recession about every four years, on average. Since World War II, the average recession has lasted 11 months, and that number is skewed longer by the Great Recession, which lasted 18 months. In other words, we were likely due for a recession soon, even before the pandemic hit.

A Depression Is Tougher To Define

Economic depressions are much less common and more severe than recessions. Because they happen so infrequently, the definition is harder to nail down.

“Although there is no exact definition, most economists agree that depressions entail little to no growth for more than a couple of years, significant increases in unemployment, a fall in production and a drastic decline in aggregate demand,” Shikaki said. Depressions also produce structural distortions in the economy and have severe social and psychological repercussions. 

Although individual countries have witnessed varied forms of depressions in the last few decades, including Japan, Argentina and Greece, the last global depression was the Great Depression of the 1930s. During its height, production in the U.S. fell 47% and the GDP dropped 30%. Unemployment exceeded 20%. And though the Great Depression lasted about 10 years, from 1929 to 1939, its impact on economic structures and policy can still be seen today.

Are We Headed Toward A Great Depression Of 2020?

“There is no doubt that a recession is underway during this year, with the International Monetary Fund expecting it to be the worst recession since the 1930s,” Shikaki said. According to the IMF, global growth in 2020 is projected to fall to -3%, a sharp downgrade of 6.3 percentage points from January 2020. 

But because of the unique nature of this recession ― namely, the fact that major segments of the economy have been intentionally shut down due to the public health crisis ― it’s not easy to predict if it will transform into a depression.

Former Federal Reserve chairman Janet Yellen warned that unemployment numbers in the U.S. could soon reach Depression-era levels. However, she also believes we should remain hopeful that the country will see a much faster economic recovery because of how strong the U.S. economy was prior to the pandemic.

“On the optimistic side, one can argue that the 1930s taught us much about the role of fiscal and monetary policies, both of which have been utilized (relatively) successfully,” Shikaki said.

Eric Sims, a professor of economics at the University of Notre Dame, agreed. “Generally speaking, the U.S. economy is better positioned to recover from large shocks and potential longer-run shifts than much of the rest of the world,” he said. “The population is, on average, younger than much of the rest of the world, with more mobility, and labor market restrictions are generally lighter, thereby facilitating greater labor reallocation.” 

Sims added that the Federal Reserve has a bit more space to provide monetary accommodation than other central banks around the world, such as the European Central Bank or the Bank of Japan. For example, the Fed recently lowered its target rate to 0% ― its lowest since the Great Recession ― and implemented a $700 billion quantitative easing program to stimulate borrowing and investing. However, how effective those measures are against an unprecedented global pandemic is yet to be determined.

From a glass-half-empty perspective, the number of jobs lost today far exceed any previous recession. More than 22 million Americans have filed for unemployment benefits within the last four weeks. “To put this into context, the Great Recession of 2008 resulted in less than 9 million jobs lost,” Shikaki said. “There is no way to forecast how many of these workers will return to the job market and how fast.” The outcome will rely on how long the closure lasts, how confident the private sector and consumers are in the government’s response, and whether there will be serious disruptions in the global supply chain.

Regardless of whether the looming recession eventually transforms into a depression, irreversible damage is already being done, as is the case with most major downturns.

“With many recoveries that followed recessions, there is an ever-increasing level of economic and income inequality,” Shikaki said. Why? First, he said, many of the workers who return to the labor market end up in lower-paying jobs. Second, the majority of money disbursed as part of economic stimulus packages eventually ends up in the hands of those who need it least. “In a society where the top 1% earns more than a quarter of total income and owns almost half of total wealth, it would not be surprising that these assets will benefit the upper-income classes, deepening the inequality problem even more,” Shakiki said.

The old adage is that a recession is when your neighbor loses his job, and a depression is when you lose yours. Regardless of which one we officially reach, it’s becoming clear that low interest rates and a $1,200 check won’t be enough to fix the financial hardship that millions of Americans are experiencing today.