In Australia and other places too, there is a quite wacky debate going on over whether the economy will avoid a ‘technical recession’. Those peddling this snake oil analysis seem to be more worried about whether the statistician’s calculation of GDP avoids falling for two straight quarters rather than looking at the human misery which is unfolding with each job that is being lost, each fall in share prices that is eliminating wealth and each bankruptcy which is seeing the business sector all but stop.

The idea of recession or for that matter economic growth, slow-down, hard landing or boom, is what economic management, policy changes and the current recession discussion should be focusing on.

The “two consecutive quarters of falling GDP” definition of recession is a useless concept. There is, at the moment, a very good chance that Australia will avoid recording consecutive quarters of falling GDP. The snake oil merchants will likely herald this as a sign of the miracle economy shining through.

Nothing could be further from reality.

The economy is already in recession and it looks like a pretty deep one at that.

  • Even IF Australia muddles through without consecutive quarters of negative GDP growth, try telling the self-funded retirees who have lost around 50% of their wealth that Australia has avoided a technical recession.
  • Try telling those retirees with their retirement incomes down 70% or 80% that a technical recession was avoided.
  • Try telling the 104,700 people made unemployed since February 2008 that a technical recession was avoided.
  • Tell the 300,000 people or more who will lose their jobs over the next year or so that a technical recession was avoided.

This list could go on and on, but the message is clear.

It is important to be practical in any assessment of the performance of the economy and avoid the distraction of some cute but useless definition of recession. Australia is in recession, the wealth destruction has been immense, the rise in human misery has been shocking and even for those who retain their jobs, there must be a large element of insecurity about the economic outlook.

Global comparison

The “two consecutive quarters” tosh also makes no allowance for a country’s potential GDP. If Japan records zero GDP, it is doing OK. If China records 4% GDP growth, it’s a disaster. Why? Because of things like population growth, the stage of industrialisation and productivity are important drivers of a country’s potential GDP.

Without wanting to be too particular on the nuances, for Australia, a run of quarterly GDP at or below about 0.25% would be recession. This is because we know that growth, if sustained at these levels, would see profits slide, unemployment rise and would signal a very poor growth performance where capacity would be freed up and inflation would fall.

The profile

The two consecutive quarters definition also makes no allowance for statistical volatility, or orders of magnitude, of the quarter-on-quarter changes in GDP. Here’s a simple example.

Look at two countries with the same long run potential GDP growth rate. Here is the run of quarterly GDP growth over a year and a half.

Country 1: -0.2% -0.4% -0.3% -0.4% -0.1% -0.4%

Country 2: -1.2% +0.3% +0.1% -1.4% +0.3% -0.9%.

Under the wacky two consecutive quarters definition, Country 1 is clearly in recession (it has six straight quarters of falling GDP) while Country 2 avoids that stigma. Yet this is misleading and should dismiss forever the two quarter codswallop.

To be sure, both countries are in recession.

But interestingly, Country 1’s GDP has fallen 1.8% over 18 months. And while Country 2 has avoided ‘two consecutive quarters’, GDP has fallen 2.8% over the same period. In this circumstance, there would be utterly no doubt that unemployment would be higher in the ‘recession proof’ Country 2 and the wealth of Country 2 would have fallen further than in Country 1. Inflation would also be lower.

Oh, and what is a recession?

A recession is an extended period of broadly based falls in wealth and living standards that results in a sustained lowering in inflation. Australia and just about every other country are going through this pain right now.

And what is a boom?

Why don’t we have a similarly silly debate over an economic boom? Is it a period of four straight quarters of positive GDP growth? Does quarterly GDP have to be above 1.0%? Or is a boom when there is an extended period of broadly based and extreme increases in wealth and living standards that produces a sustained acceleration in inflation? In a way, it doesn’t really matter about the definitions; it is the performance of the economy that matters.

Peter Fray

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