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RECESSION

Definition: - 1.

A period of general economic decline; typically defined as a decline in GDP for two or more consecutive quarters. A recession is typically accompanied by a drop in the stock market, an increase in unemployment, and a decline in the housing market. A recession is generally considered less severe than a depression, and if a recession continues long enough it is often then classified as a depression. There is no one obvious cause of a recession, although overall blame generally falls on the federal leadership, often either the President himself, the head of the Federal Reserve, or the entire administration.

Definition: - 2.

In economics, a recession is a business cycle contraction, a general slowdown in economic activity over a period of time. During recessions, many macroeconomic indicators vary in a similar way. Production as measured by Gross Domestic Product (GDP), employment, investment spending, capacity utilization, household incomes, business profits and inflation all fall during recessions; while bankruptcies and the unemployment rate rise. Recessions are generally believed to be caused by a widespread drop in spending. Governments usually respond to recessions by adopting expansionary macroeconomic policies, such as increasing money supply, increasing government spending and decreasing taxation.

Definition: - 3.

1. Drop in price or rate.
2. To reject for insurance coverage or credit.

Unemployment: - An economic condition marked by the fact that individuals actively seeking jobs remain unhired. Unemployment is expressed as a percentage of the total available work force. The level of unemployment varies with economic conditions and other circumstances.

A recession is characterized by:

1. Rising unemployment (often unemployment is a delayed factor) i.e. it takes time for unemployment to rise, but, even when the economy is recovering, it takes time for unemployment to fall.
2. Rising Government Borrowing. A recession is bad news for the government budget. A recession leads to lower tax revenues (lower income tax and corporation tax revenues) and higher government spending on unemployment benefits. The UK is forecast to borrow £60 billion, a recession could make this borrowing even worse in 2009. This borrowing means higher taxes and higher interest payments in the future.
3. Falling Share Prices. Generally a recession leads to lower profitability and lower dividends. Therefore, shares are less attractive. Note share prices often fall in anticipation of a recession. e.g. the recent falls in share prices are largely because the market expects a recession soon. During the actual recession, share prices often increase in anticipation of the economy recovering. Note also, falling share prices don't always mean a recession, falling share prices can occur for many other reasons.
4. Lower Inflation. Typically a recession reduces demand and wage inflation. This should result in a lower inflation rate. However, this recession is complicated because of rising oil prices. Therefore, the forthcoming recession may actually occur simultaneously with higher inflation - a term known as stagflation. But, a recession will definitely reduce demand pull inflation pressures and encourages price wars on the high street as firms seek to retain consumers.
5. Falling investment. Investment is much more volatile than economic growth. Even a slowdown in the growth rate (economy expanding at a slower rate) can lead to a significant fall in investment.

Recession?  Depression? What's the difference?

There is an old joke among economists that states:  “A recession is when your neighbor loses his job.  A depression is when you lose your job”. The difference between the two terms is not very well understood for one simple reason: There is not a universally agreed upon definition. If you ask 100 different economists to define the terms recession and depression, you would get at least 100 different answers. I will try to summarize both terms and explain the differences between them in a way that

Depression: - Before the Great Depression of the 1930s any downturn in economic activity was referred to as a depression. The term recession was developed in this period to differentiate periods like the 1930s from smaller economic declines that occurred in 1910 and 1913. This leads to the simple definition of a depression as a recession that lasts longer and has a larger decline in business activity.

The Difference

So how can we tell the difference between a recession and a depression? A good rule of thumb for determining the difference between a recession and a depression is to look at the changes in GNP. A depression is any economic downturn where real GDP declines by more than 10 percent. A recession is an economic downturn that is less severe.  By this yardstick, the last depression in the United States was from May 1937 to June 1938, where real GDP declined by 18.2 percent. If we use this method then the Great Depression of the 1930s can be seen as two separate events: an incredibly severe depression lasting from August 1929 to March 1933 where real GDP declined by almost 33 percent, a period of recovery, then another less severe depression of 1937-38. The United States hasn’t had anything even close to a depression in the post-war period. The worst recession in the last 60 years was from November 1973 to March 1975, where real GDP fell by 4.9 percent. Countries such as Finland and Indonesia have suffered depressions in recent memory using this definition. Now you should be able to determine the difference between a recession and a depression without resorting to the poor humor of the dismal scientists.

IMPACTS OF RECESSION

Unemployment
The full impact of a recession on employment may not be felt for several quarters. Research in Britain shows that low-skilled, low-educated workers and the young are most vulnerable to unemployment in a downturn. After recessions in Britain in the 1980s and 1990s, it took five years for unemployment to fall back to its original levels.

Business

Productivity tends to fall in the early stages of a recession, then rises again as weaker firms close. The variation in profitability between firms rises sharply. Recessions have also provided opportunities for anti-competitive mergers, with a negative impact on the wider economy: the suspension of competition policy in the United States in the 1930s may have extended the Great Depression.

Social effects

The living standards of people dependent on wages and salaries are more affected by recessions than those who rely on fixed incomes or welfare benefits. The loss of a job is known to have a negative impact on the stability of families, and individuals' health and well-being.^] A  drastic slowing of the economy. The Americans, who are good at making precise definitions, often apply the term to a situation where gross national or domestic product has fallen in two consecutive quarters. A recession would be indicated by a slowing of a nation's production, rising unemployment and falling interest rates, usually following a decline in the demand for money. A popular distinction between recession and depression is: 'Recession is when your neighbour loses his job; depression is when you lose yours.'
How does the recession impact :-
1) Savings
In a recession, private sector savings tend to rise. This is because people become more nervous to spend. The spectre of unemployment encourages people to save more and spend less. However, the rise in private sector saving may be offset by a fall in public sector saving (i.e. government borrowing increases to try and stimulate the economy)
2) Consumption
Consumption will tend to fall because people are worse off.

3) Investment
Investment will fall. Usually investment is highly cyclical. Therefore, a recession causes a bigger % fall in investment than consumption. Confidence is very important to investment so in a recession, investment tends to dry up.
4) Government spending
Automatic fiscal stabilizers will cause government spending to rise. e.g. in recession, government have to spend more on unemployment benefits. Also the government may pursue expansionary fiscal policy to try and increase aggregate demand e.g. spending on infrastructure projects.
5) Aggregate demand
There is a lot of talk about recession at the moment. There is a general understanding recessions are bad, but what does it actually mean to be in a recession and how does this affect the average consumer? The definition of a recession is negative economic growth for two consecutive quarters. This means a fall in Real GDP, - lower National income and lower National Output. However, it is worth noting some people talk of a recession, even when growth is very low.

Recession in insurance
Insurance sector is one of the fast growing sector in India, lot of players are around now these days like Birla Sunlife, HDFC Insurance, HSBC Canara, Star Union Dai-ichi Life Insurance, Reliance Life, DLF etc beside that lot of service provider companies are providing solutions to them like Mastek, TCS, EDS, CSC, CTS, Solecorp etc. All companies are trying to follow the benchmark & Industries standards of MNC’s.
Global Economy Slowdown, Global Recession, Cash Flow Crises, Pink slip well-known jargons are now these days. Is this true, Insurance Carriers & IT companies in India are also struggling to balance their funds. Big companies, Dream Companies, Blue Chip Companies, Top 100 companies have applied cost cutting majors, giving a reason of economy slowdown & Recession. Giving pink slips to employees, however Indian Companies have never paid global salaries to their employees, so why Cost cutting, Salaries cut downs, reduce cost, reduction in the infrastructure etc.
If you see last Q1,Q2 & Q3 results no company claimed the losses. Why in Q4 cost cutting majors? Let me list out the mistakes committed by companies in the past during good times and the cost of such mistakes are being paid now by Import & Export, Banking, Insurance, Software companies etc including their helpless employees.
1. Many Companies, in both manufacturing and services sectors, have acquired foreign companies at very prices, at double or triple times of their company values. For that they have borrowed large funds to acquire white elephant. At those times, the Indian companies were in a high and had illusions of making their companies into global empires with in no time.
2. Many Indian companies have diversified and have invested money in different domains like, Asset Management, Financial services, Telecom etc. where they were not experienced.
3. Many companies in software services sector, in their greed for growth & in their ambition to be counted upon in the rat race, have created large bench of unproductive employees.
4. Many company did not preserve the profit generated during the good times for rainy days. Hence when the business cycle turned down, these companies have no preparation and no contingency plans in hand to boldly face the situation.
The Best thing is that India is fewer sufferers compared to several other countries. Thanks to Indian public sector banks and special thanks to RBI to not permitting exotic derivative & foreign financial products to enter in India. Hence we can say there is only slow down in India and not a recession. A recession is defined two consecutive quarters of negative growth. India is still expected to grow about 6.5 to 7% in FY’09 and by about 5.5 to 6% in FY’10 (compared to the 8 to 9% growth in the last four years).

Insurance companies traditionally have thrived more on investment income than core underwriting business. Competitive pricing and below par risk rating have been protected by shrewd investment decisions. Current global recession and consequent economic crisis has put a lid on this maneuverability. Falling prices in real estate sector and nose-diving stock markets have already depleted shareholders’ equity and moved the investment portfolio of insurance companies in red zone.
There are several issues that need to be debated. Where does insurance industry stand today amidst current crisis? What the future beholds for the insurance industry? Can it sustain itself on underwriting results alone? How deep the investment losses would impact the balance sheet and consequential stability of the companies? There are no straight answers, yet indicators and pointers provide an overview of the situation.

Current Scenario

Insurance industry follows closely the fortune of the financial sector and is directly impacted by the movements at the macro-economic level. Economic growth spurs insurance activities and a recession creates manifold problems for the insurance industry. Recession is an outcome of slowdown in economy and is evidenced by successive periods of negative growth in production.
Current recession actually started in late 2007 when subprime crisis reared its ugly head though manifestations became visible only in 2008. Several significant casualties have been reported, e.g. AIG, Lehman Brothers, Washington Mutual, Merrill lynch, Citigroup, Freddie Mac, Northern Rock, Bradford & Bingley and many others have either failed or are in bad shape due to severe losses. This situation has led to liquidity crunch worldwide and cash flow has dried up. Consumer confidence is shaken and the demand for products and services are at abysmally low level.

Cause-Effect on Insurance Industry

Unlike banks that were dumbstruck by the end of third quarter in 2008 due to the unfolding saga of financial crisis, insurers have shown rather remarkable resilience and in all probability would be declaring year-end results on a positive note. First nine months of performance may see them through despite massive investment losses in the last quarter of 2008. This situation however is short-lived and Insurers are bound to feel the heat sooner than later.
New construction and infrastructure projects have dried up and ongoing projects have been stalled due to inadequate cash injection in the market. Banks are not releasing installments to firms even on limits which were agreed prior to this crisis. This has impacted the engineering class of business in the insurance sector. Inquiries for CAR (Contractors’ All Risks), EAR (Erection All Risks), Machinery Breakdown and Equipment Insurance have almost dried up in the last few months. Construction, infrastructure projects by governments and energy projects by private as well as governments have either been shelved or being delayed and insurance industry will have to live without large premiums from the project insurance for some time.
Continued recession shall have impact on property class of business too. Cost-cutting in the corporate sector may lead to reduced expenditure on insurance. Falling market prices of property shall further bring down the premium volume on property insurance. Business Interruption or Loss of Profit premiums also shall go down due to reduced profit forecasts for most corporate.
Life insurance sector is likely to see even bigger erosion in volumes and profits. Employee benefit schemes, Workmen’s Compensation, Medical Insurance, Group Life and Personal Accident Insurance, etc. are likely to take maximum hit. With the investment portfolio almost gone, most unit-linked policies, Pension Funds and other investment backed insurance products shall show negative NAV (Net Asset Value) and consumer confidence shall further nosedive. Policy holders are already requesting cancellation of their policies in order to preserve cash in this moment of crisis. All this doesn’t bode well for the insurance sector. Retail insurance sector has similar problems. Low consumer confidence and stringent lending norms for retail customers by banks have led to reduced demand for products and services. Automobile companies are struggling to keep afloat due to negative sales growth. This directly affects motor insurance premium. Travel industry including airline companies are witnessing lower traffic resulting into reduced travel insurance premium. Reduced sale of property is resulting in reduced premium income on mortgage insurance and householders’ insurance.
Declining international trade and consequent reduction in export and imports have resulted in inflated inventories and consequent redundancy of work force has increased job loss claims. Reduced international trade has also impacted marine cargo and marine hull insurance businesses and premium incomes have dropped substantially. There are other issues too to ponder. Insurance industry is likely to see multiple bad moral hazard cases as depressed market conditions may lead to payment defaults and corporate frauds. Such situation stimulates claims on fire losses, business interruption losses and losses arising out of Directors’ and Officers’ liability litigation. Madoff and Satyam Computers are two recent examples to prove the point.

Shareholders’ and Regulators’ role

Continued depressed market and resultant decline in premium volumes (and consequently reduced profits) is likely to put pressure on the management of insurance companies. As they struggle to satisfy their shareholders by providing similar returns as in the past, this could lead to rate cutting, imbalanced portfolio and compromised underwriting. A prudent board and shareholders of the insurance companies would do well to advise the management to concentrate on quality rather than volume business so that bottom lines are at least maintained.
Regulators too, have a big role to play under such extraordinary circumstances. Supervision needs to be thorough rather than routine. Emphasis should be on ratios and reserves rather than procedural issues. Solvency ratio and liquidity ratio must remain healthy and technical and other statutory reserves must be robust. An eye on reinsurance market and regular advisory would supplement the supervisory efforts. Countries where regulation is non-existent or weak, respective governments have to step in before it is too late. World has understood the significance of solvent insurance industry by witnessing the way US treasury handled the AIG crisis. Failing banks followed by failed insurance companies can spell doom for the entire economy.

How To Survive a Recession

With many predicting a recession in the US, the average consumer may be worrying how a recession might affect them and what they can do to insure against the negative effects of recession. These are some of the effects of recessions and how to deal with them.

More difficult To Borrow-  In a recession banks are less willing to lend. This is particularly a problem at the moment, because of the concurrent credit crises which is reducing the availability of loans. Solution: Avoid taking on any unnecessary debts. The debts you have try to reduce and consolidate into a lower interest rates bearing account. On the positive side, in a recession interest rates are likely to be lower, meaning lower interest payments for mortgage holders.

Unemployment. This is the main concern over a recession. If output does fall, there is likely to be a fall in demand for labour. This problem is often concentrated in those sectors most affected by the recession. For example, in the current climate, jobs related to finance and the housing market are more at risk than say the manufacturing sector. Solution: If you fear unemployment, start thinking what you might do as an alternative. Is it viable to consider working on a second income, such as online business. Do you have unemployment insurance to cover mortgage payments. If not, it would be worth taking insurance out now. Don't panic. Firstly, the unemployment may not occur; there is nothing to be gained by worrying over what we have no control other.  If are made unemployed, the best solution is to be flexible in looking for work. Consider new avenues and skills that you could learn. Also recessions will be short lived; a period of temporary unemployment does not have to become permanent.

Falling profitability of Business. If you are a small business owner the effects of a recession can be keenly felt. Lower profits could even threaten the survival of the business. Solution: Look for ways to minimize costs without compromising the business. There are always ways to cut costs and increase inefficiency. Some economists even go so far as to say that recessions are a good thing because they force the economy to become more efficient. If your business is particularly affected by the downturn, look to see whether you can diversify to reflect the changing economic environment. For example, if you specialise in selling luxury goods with a high margin try including some new product lines which appeal to people's desire for frugality. A fall in profits is likely to be cyclical. therefore try to plan a financial plan to borrow at a low cost for the difficult years.

Falling Stock Market In a recession, stock markets are likely to fall as lower profits reduce dividend payments. Try to diversify your investment portfolio. In a recession, commodities such as gold often do well. Even in a recession, there can be good investment opportunities.
Also bear in mind that stock markets can often be forward looking. For example, stock markets have fallen sharply since the start of the year in anticipation of a recession. When a recession comes, stock markets often don't fall any more.

Consumer Confidence  Often the worst aspect of a recession is the affect on consumer confidence and people's fear about the future. Bear in mind, the media often exaggerate the extent of a downturn in the economy. The media like to highlight sensationalist stories. However, it is often not as bad as it is made out to be. Keep a calm and detached attitude and just make the best of the current situation.

Any Benefits of a recession?

Lower interest rates. Good for borrowers  Lower inflation rates. Good for savers

Sometimes difficult times can force us to reevaluate our financial situation. It can make us look for new business avenues and new ways to cut costs and spending. Although it may be temporarily unpleasant, the important thing is not to panic but try to make the best of any situation we find ourselves in.

Can a Recession Really be a Good Thing?

It is argued by some people that a recession can benefit the economy, at least in the long run. The reasoning is that falling revenues force firms to become more efficient, e.g. cutting unnecessary costs e.t.c. In a recession, inefficient firms will go out of business and this shake up is necessary to weed out the inefficient and provide incentives for firms to be as profitable as possible.
Problems of Recession - Why A Recession is Bad

A recession will make it difficult for new firms who have just entered the market. Most new firms have high set up costs, therefore, a downturn in the economy could make them close down. However, this does not mean that they are inefficient. It just means they are new and struggling to get established..

Increased Monopoly Power. If a recession causes the smaller and newer firms to go out of business then the larger dominant firms will gain more monopoly power. In the long run this will lead to less choice and higher prices. This is a definite disadvantage of a recession. When the Chairman of Ryanair argued recessions would be a good thing, maybe he meant - a good thing for Ryanair, as it may involve new firms going out of business leaving him more market power.

Hysteresis. This is the argument that the past is a predictor for the future. Basically, if you have high unemployment, then it is more likely to have high unemployment in the future. If people are made unemployed in a recession, it may take a long time for them to find work again. When they are unemployed they lose skills, become demotivated and become less attractive to employers. Note after the recession of 1981, Unemployment remained stubbornly high in the UK, even into the boom years of the late 1980s

Fall in Productive Capacity. A recession can damage the productive capacity of an economy. Firms can go out of business and therefore shut down their resources. Furthermore in a recession, there will be a significant fall in investment, this can harm the long term development of an economy.

You don't need a recession to weed out inefficient firms. If markets are reasonably competitive, inefficient firms will be forced out of the market anyway.

Conclusion:-

A recession is unnecessary to increase economic efficiency. The long term future of an economy can be best helped through stable growth, which avoids the extremes of boom and bust economic cycles.

written by ajay kumar
ajay.mrim@gmail.com
09889286712