What Is a Recession Anyway?

Financial pundits continue to vacillate on the likelihood of a US recession. We’ve written in the past about the challenges of evaluating the real-time health of the economy. But why is it so hard to know if we’re entering a recession? Understanding what defines a recession can help answer that question.

US recessions are identified by the National Bureau of Economic Research (NBER). Their decisions factor in numerous economic indicators such as GDP growth, industrial production, and unemployment but are not contingent on an exact formula. From the NBER website: “There is no fixed rule about what measures contribute information to the process or how they are weighted in our decisions.”¹ Accordingly, past recessions have come in all shapes and sizes, depending on what you’re measuring.

The length of these recessions alone shows how much they can differ. The duration in months has varied from two to 18. The short end of that spectrum—March through April of 2020—appears an outlier, but even excluding that one, recessions have lasted anywhere from half a year to a year and a half. More importantly, economic indicators have varied in how “bad” they depicted things. For example, GDP growth during recessions was flat or even positive in a quarter of the observations. Industrial production declines and unemployment outcomes spanned an order of magnitude. But it’s not as if all measures simultaneously point to dire each time the economy contracts.

The fact that there’s no cookie-cutter formula for recessions adds to the challenge of predicting them. That is why attempts to make asset allocation changes based economic forecasts are often futile.

Exhibit 1

US Recessions

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This article originally appeared in Above the Fray, a weekly newsletter for Dimensional clients. It was not created, written, or produced by TwoTen Planning.

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Footnotes

1. “Business Cycle Dating,” National Bureau of Economic Research.  

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