“There’s a risk of a mild recession in the US in 2023; expect inflation to move above 8% in India by Sept” Sonal Varma, ET

Have you ever wondered what will happen if prices go down? Of course, the first thing at your lens would be the goods become cheaper and as an individual in a large economy, you will be able to save more pennies. 

A recession is much more than just cheaper goods, indeed it comes with many short-term and long-term issues to the economic health and wealth of the country. However, recession can ease off some corrections to the economy, thus having some remedial benefits too!

What is a Recession?

A recession is a situation when prices in the economy drop significantly for a period of time. 

A recession is characterised as a situation where a country’s Gross domestic product (GDP) declines significantly for two successive quarters. 

This leads to obvious consequences of price level change. A prolonged recession can cause depression in the economy which can be worse. 

However, the reason for the recession matters a lot when deciding if it will provide support to the economic circumstances or will degrade the situation.

During the recession, the demand in the domestic economy declines. Reasons for recession can be numerous, like COVID and other pandemics, war situations, the bankruptcy of government, wrong political decisions and so on.

Indian economy experienced a slight recession from 2020 to 2021 when lockdowns forced to shut economic activity in the country. 

Across the reasons, the magnitude of recession is also one such factor that decides whether it is beneficial or disastrous.

Consequences of Recession 

Firstly it is important to note the consequences of recessions to understand how can we benefit. 

First and foremost, when there is a recession, and when economic activity in the economy is slow-paced, producers produce less to compensate for losses over decreased demand for products. 

Since producer cuts down production, a huge part of the employed labour force is forced to leave jobs. The income has vanished and this leads to more demand shrinking. 

Now in the labour market, since labour availability is high, more supply and less demand of labour further push wages into a downtrend. Simply making demand more shorted.

Now as overall demand in the economy has shrunk so much, this recession phase brings prices down. It causes deflation. Goods become cheaper. 

Moreover, it affects the financial market as a recession will block the profit-making capacity in financial markets. 

Benefits of Recession 

Having judged the reasons and consequences of the recession, we now can analyse the benefits. 

1. Inflation targeting – sometimes governments formulate policies that aim at a slight recession in the economy.

Wondering why? Here it is, when an economy is struggling with high inflation or even hyperinflation, the purchasing power of the home currency falls to a large extent. 

This also leads to a debt trap in the economy internationally. In such cases, recession can be used as a tool to promote deflation which brings down prices in the economy. This may also lead to the long-term growth of the economy once the effects are positive. 

A relevant example of this could be, the 1981-1982 recession in the US, which was  triggered by Federal Reserve interest rate increases in response to high inflation, which helped to lower the inflation rate from 11% in June 1979 to 5% by October 1982, and the U.S. economy grew for the next eight years.

2. Increased foreign demand – since our prices decline in recession, our goods become cheaper for foreigners. This will lead to rising in foreign demand for our goods.

A recession may lead to an increase in exports. As exports increase some of the government deficit reliefs over the import bill. 

Understanding how prices will lead to the growth of exports lets us know how economists identify the change:-

 Real exchange rate = nominal exchange rate x price of the good in foreign/price of the goods in our country

Now by this formula, if the price of our goods declines, the real exchange rate would have an inverse effect and thus rise. 

This means our currency depreciates and therefore the currency market also simulates our increased exports. 

3. Businesses with opposite trends enjoy – although the recession brings big bears to businesses, certain industries have no losses or even get an added advantage during the recession. 

These industries are the ones that are either the most important, that is necessary goods like medicines and groceries. The businesses that make a profit in recession count in due to the inferior nature of products.

The economics says, when income declines, the demand for normal or luxurious goods decline but the consumption of inferior goods picks up. 

This is because people move to cheaper products to save themselves. And therefore business with opposite nature gets an advantage in recession. 

4. Efficiency increases – this benefit of recession plays an important role in knowing what strata of the economy are strong enough to sustain back their business.

Since in the recession game, one with little or no financial stability losses. This means the more efficient ones win the sustenance game. 

Inefficient Businesses will shut down due to extreme low revenues or due to higher opportunity costs of production.

 This will lead to better allocation of resources to efficient business in the economy.  

5. Awareness over uncertainty – the recession pushes the mindset on the way of savings. A person with no savings cannot survive during a prolonged recession and therefore population gets their attention over saving systematically to provide for emergencies. 

Conclusion 

One should always follow ideas with relevant reasons, therefore just knowing the bad side of the coin won’t make you wise. To judge the situation better, and make a profit out of losses, a recession can provide some support. A long-term thinker will also juggle the pennies and understand that short term recession will boost the economy in long term and therefore will save surplus to invest in upcoming growth bulls. However is true that recession is disastrous mostly, but changing a bane into a boon is what a smart investor does!