Recession: Why Does it Happen?

If you had told me four years ago that I would one day write about ‘Recession’, I would have laughed in your face.

Most people learn financial literacy when they have to. I’m no different.

I still remember how I fell into a yearlong depression after I was laid off from my IT job during the global economic meltdown in late 2013. In fact, being unemployed was a huge punch in my gut, and one I couldn’t handle with very well.



Fast forwarding three years now!!

On the two-year anniversary of my amazing Entrepreneurship journey, I was looking through my closet where I spotted the Formal wear I had worn on the last day of my 9-to-5 job.

Instantly, my inner voice popped a question, “Why do Recessions happen?”.

Well, what’s wrong in finding an answer? 🙂

What is Recession?

A temporary decline in the economic activities, lasting longer than few months.

A Recession normally takes places when there is a drop in the demand of goods. For e.g.., when people lose interest in Dosas, the demand for dosas go down, less dosa production, and in turn dosa-masters lose jobs.

What causes Recession?

Economic Impact in the United States.

There is a popular saying,

“When United States of America sneezes, the whole world catches the cold”

United States being the traditional importer of Indian IT exports; the country absorbs over 62 percent of Indian IT exports yearly.

Image credit: 123rf.com

Employment in IT sector is expected to increase and reach 3.7 million people directly and over 10 million indirectly.

Therefore, a slight shake in the US economy affects 13.7 million Indians causing Recession.

No doubt; companies like TCS, Infosys, Wipro, HCL who are heavily dependent on H1B visas (a non-immigration visa used by US Corporates) are likely to be affected by the Trump’s policy on cancelling them .

India's IT exports to the US
US imports over 62% of Indian Software Products/Services. Source – Nasscom

Related:  2 Wise Options to Invest with little money in India

Oil Price Fluctuations

India, one of the largest oil consumers in the world, imports nearly 80% of its total oil needs. Every Indian is dependent on oil, or its by-products for his basic necessities like Transportation, Cooking etc.,

Popular saying,

“We aren’t addicted to oil, but our cars are.” ~ James Woolsey

Rise in oil prices increases the price level of all essential commodities in the economy. For e.g.., Price of vegetables you buy daily is dependent on the Lorry Transportation service charges

Image credit:3.bp.blogspot.com

As all the business are intertwined, rise in oil prices put pressure on other industries to raise wages for the employees to cope up with Inflation (rise in the price levels of essential commodities).

That’s when the companies decide to choose between raising wages or cut jobs. Obviously, cutting jobs saves money.


High Inflation – the major cause
Rise in the price levels of Essential Commodities

Here goes a popular saying,

“Once the true relationship between inflation and unemployment is understood, with luck and skill, a free lunch is possible.” – Paul Ormerod

Inflation is rise in the price levels of essential commodities – a slight increase in the inflation rates is good for the economy to grow, but high inflation rates lead to recession.

A Simple Example

In a healthy economy, there is sufficient rainfall — dosa-shop owners buy rice for low-price; dosa prices are cheap.

What causes Recession?
Icon credit: Flaticons.com

In a situation when there is no rainfall, rice prices skyrocket due to demand for it — every dosa-shop owner wants rice but there is limited rice. Rice is sold only to those who pay high-price, Rice price skyrockets; so does the dosa-price.

Dosas turn expensive, less customers buy them, production goes down; hence unemployment rises due to Job Cuts.

Related:  3 Movies to Kickstart with Stock Market Basics

So, how to be Recession-Proof?

Build an Emergency Fund

Put aside atleast 3 to 6 months’ of expenses.

“Do not leave yourself or your family unprotected against financial storms… Build up savings” – Ezra Taft Benson

Many ignore the importance of setting money aside for emergencies.

Are you prepared if something happens? Can you pay your bills if you lost your job and become unemployed for 3 months? Situations change – How well are you prepared?

Build an emergency find
Image credit: freecreditscore.com
Keep an eye on the Inflation rates

High Inflation was the major cause for the global economic meltdown in India 2008 – 2013. If Inflation rates goes above 10%, which is called as double-digit inflation, economic activities decline; recession occurs.

How Inflation affects Recession?
Double-digit Inflation means very high price levels of commodities
Create Passive-Income Streams

Passive income streams are automatically generated incomes from your assets.

“You become financially free when your passive income exceeds your expenses.– T.Harv Eker

In fact, generating passive incomes has been the secret sauce of the rich for generations. Be it your second home that generates monthly rents, or a Fixed deposit scheme that generate some interest; passive incomes sets you financially free in a long run.

Passive Income
Image credit: freedomthroughpassiveincome.com

Think of the world where money pours into your account everyday without you working for it, what else you need?

References

http://www.inflation.eu/inflation-rates/india/historic-inflation/cpi-inflation-india.aspx

https://www.kotaksecurities.com/ksweb/Meaningful-Minutes/5-ways-falling-oil-prices-affect-India

http://www.ibef.org/industry/indian-it-and-ites-industry-analysis-presentation

Prabha is a User Interface Designer (Software design) + Entrepreneur, and a passionate home organiser. She was a spendthrift until she came across the book 'Millionaire next door'. In fact, this (the book) was her turning point towards frugality and financial freedom. Read more

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