By Vaishnavi Agarwal
“America’s 659 billionaires hold roughly $4 trillion in wealth — roughly double what the 165 million poorest Americans are collectively worth.”
– NBC news, the USA
Unlike me, you don’t need a degree in Economics to realize the fact that something has been going wrong with the economy. When I say economy, I don’t mean the Indian economy but the world economy – counting well-developed countries and countries that are nowhere near to being developed. Let me place it out for you if it hasn’t struck you yet.
In 2021, the global debt reached $303 trillion according to the International Monetary Fund’s Debt Database.
– The government bailouts have been at an all-time high. A government bailout means the financial support extended to a country facing a potential bankruptcy threat.
– Extreme money printing: Money Supply M2 in India increased to 55150.14 INR Billion in July from 54622.68 INR Billion in June of 2022.
– 2020 Covid crisis: As of March 2021, COVID costs totalled $5.2 trillion. World War II cost $4.7 trillion (in today’s dollars).
– Inflation causes increases in interest rates, lowering bond prices.
– Increases in interest rates cause reductions in stock values. And yet stocks bounced back and grew by more than 150%.
With the least possible facts and figures given above, you must now be surely convinced that there is something wrong with the economy. So, what happens next? Do the rich get richer, and the poor get poorer? That’s exactly what has been happening already. As far as economists and finance researchers can see, they have predicted that a recession will hit various economies of the world by the mid-2023 or first quarter of 2024. Sounds scary, doesn’t it? This is exactly why this article has been written; to let the reader know that a recession could be good for the economy. Let’s get into the details now.
What is a recession?
In simple terms, a recession is an economic slowdown. The longest and the deepest slowdown was that of The Great Depression (1929-1941). World War II had a major impact on this slowdown. Back then, all economic activities stalled, hence, the GDP (Gross Domestic Product) of the world did not grow much. That was the time when there was very little economic activity and economic de-growth prevailed.
But in business terms, a recession is a period where only the fit firms end up surviving. Charles Darwin’s theory, “Survival of the fittest” showcases that only fit firms end up surviving a recession and the money flows to people who have the best use of that capital.
Economically, there are two phases of the economy. Boom & Bust. Boom refers to the large availability of capital money credit in the economy. In 2020, an excess amount of money was being printed in the economy, leading to a massive money supply flowing through the entire economy. This trend started in 2008’s financial crisis. That leads to a growth phase in our economy. Where there is growth, there is greed. People clamoured for immersive growth. And where there is greed, there is competition. Hence, every country ended up competing with each other and was trying to outcompete each other in terms of accelerating growth even if it’s artificial. But since everyone is cheering for the growth, it leads to a lot of inefficiency in the economy. Inefficiency refers to the state when an economy is not utilising its resources to the fullest and producing less than its capacity. In this case, money flows to companies that are not necessarily creating good business or working on good ideas. They are getting excessive funding simply because everyone is cheering for growth. In a nutshell, during the boom phase, a lot of inefficient companies end up getting a lot of capital, which is harmful to the economy.
Hence, Bust is important because it streamlines the flow of capital and ensures that capital is reaching the company that can make the most productive use of it. Bust also eliminates bad practices from the economy. Let’s understand this with a reference to The Great Depression (1929). There existed systematic inefficiency in the economy during that time. People were losing a lot of jobs and, as a result, the unemployment rose from 2-3% to 26%. As a coping mechanism, people stopped spending, which is, pretty obvious. The people who were not losing their jobs (yet), started to save because of the mentality ‘What if I lose my job too?’ This led to an underspending in the economy. Since there was no spending, the companies had no incentives to produce more. But they couldn’t simply stop operating right? To cut down on their costs, they cut off the workforce. Therefore, unemployment.
Looking at the scenario, someone had to jolt the economy for the above-mentioned cycle to break. The solution was that the government started to print more money. The government then printed excessive amounts of money and supplied it to the system so that the spending cycle could improve, and people could spend more, leading to more incentives for the company to produce, further leading them to employ more work force. Post-1930, many countries switched from the gold standard to fiat standard economies. This means that the government took on itself to print as much currency as it liked.
As we have read so far, we can now conclude that a recession is an opportunity to bring structural changes into the economy. Therefore we might be heading into a recession at present because it’s needed. Why is it needed? Because there is excess money printing, everywhere! In the US, it has never happened before. Its inflation rates have been fluctuating drastically over a few months. From 10% to 4% to 12% to 6%, the rates have been very volatile. When the inflation rates of a country change so rapidly, the country is known to have Unstable Inflation. Such a scenario has never been seen. These fluctuations affect businesses drastically. Certainty in the economy and the market are loved by both; businesses and stock markets. Sureshot surety can’t be guaranteed, but unforeseen changes in the economy are something that neither of them would like.
The same goes for inflation. If inflation rises, the businesses will take loans accordingly, keeping the rate of interest in a year in their mind. They will prepare their strategies and course of action accordingly. And if the inflation is low, they will maneuver their practices, operational practices, hiring decisions, and a lot of other routines. But, if there is unstable inflation in the economy they can’t do either of the above-mentioned planning. It’d be hard for them to even decide how much they need to produce and how much they need to spend. Every business house would be in a whirlpool. Some businesses would run out of funds to operate causing them to shut down. Now, if so many businesses get kicked out of competition, there would be very little and slow growth.
You must have in your mind, what is this recession going to be about. What if it will be worse than ever? Well, let’s first understand what would be so different about this recession. The one thing which could be very different about this recession is that it would be based on political mandates. What is any politician’s goal? To win the elections, of course. To that, they are using two tools. First, to showcase to their voters and their non-supporters that under that specific government, a lot of growth has happened. The GDP increased, the share market rose, and the overall economy got better too. Second, to keep the prices down, because we as normal citizens don’t like high prices. Try to remember the onion scenario back from 2010 or even 2015.
Now, the question is, how do we survive the recession? Well, this would be easier for people who invest in the stock markets, and for those who don’t, you might want to invest now. Firstly, the markets are going to move sideways. This means that the prices of shares are going to fluctuate within a specific range, for a specific period. In this case, probable till the recession lasts. Secondly, this will become the age of monopolies because they are better at handling inflations and they would probably replace the companies that fail to survive the recession. Thirdly, artificial growth will stop for at least a decade, because people will start believing more in monopolies and would be hesitant to put their money in new or smaller companies. And, lastly, hard assets would also gain their importance back.
Taking in all this information might be raising a lot of questions in your mind. But here, yet again I would like to let you all know that the recession of 2023-24 is a prediction and not a fact. We are yet to enter that time and state of the economy. But, if you do see yourself entering a recession, you are at least a little prepared now.
(The writer is an Economics graduate. Currently she is a digital
marketing manager at an investment management firm, and aspires to be an investment analyst).