Causes Of An Economic Recession (2)

Like many things in life, the economy of any nation in the world will experience the highest highs of a boom as well as the lowest lows of a recession or even a depression

Like many things in life, the economy of any nation in the world will experience the highest highs of a boom as well as the lowest lows of a recession or even a depression.

In our last post, we considered some of the possible causes of an economic recession as a way to serve as a pointer towards making investment decisions or at least understanding the times.

In this post, we consider some more reasons for an economic recession and how they affect the lot of us.

Loss of confidence in the economy

The same way the stock market is affected by investors speculation, the economy of any nation is affected by the negative speculation of not just investors but also business owners and the wider world.

For example, where a nation is going through a level of instability, it becomes a risker investment for foreigners. With foreign direct investments (FDIs) reduced, the economy is less stimulated.

Where this loss of confidence occurs, it pulls down the economy in a diverse range of ways. Consumers might also stop buying and become defensive. The panic makes businesses spend less money thereby reducing employment opportunities and even manufacturers cut back.

In times like these, the government will then need to step in for things to revert to the mean. If consumers believe the economy is bad, they are less likely to spend money. Consumer confidence is psychological but can have a real impact on any economy.

Falling Housing Prices

Real estate has been tied to many recessions – including that of 2008 that affected even the largest economies in the world. It is also what triggered the great recession.

As prices fall, homeowners will spend less and many might not even be able to pay their mortgages. This ultimately affects the banks who will lose money as a result of mortgage payment defaults.

Deregulation

Another issue that could set off a recession is where lawmakers remove some of the important safeguards of an economy. Deregulation involves the reduction or even complete elimination of government power in an industry.

While this is typically done as a way to create competition, it could set things off on a negative course.

Deflation

While we considered the impact of inflation on the economy and how it can set off a recession, there are also ways in which deflation could result in the same thing. Deflation is the decrease in the general price level of goods and services over a period of time.

Interestingly, prices falling over time have a far worse effect on the economy than inflation as the value of goods and services is generally reduced. Hence, you earn less for doing the same work.

When prices keep falling, more people will wait for prices to fall further to get goods and services at a lower cost. Soon enough, it destabilizes the entire economy.

Wars & Pandemics

When there are wars and global pandemics, economies slow down. After the evil passes, things might take a while to adjust before returning to the norm.

It is for this reason that people are encouraged to have emergency funds so they can be able to get back on their feet after such crashes occur.

Whatever the cause of the recession is, the truth is that things will always revert to the mean. It is, however, important for the investor to be able to shield himself or herself from the possible losses by keeping the right portfolio spread and maintaining a good balance between risk and reward.

Written by Lawretta Egba.