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Eureka: A fireside chat on economic crises and recessions Eureka: A fireside chat on economic crises and recessions
by Akli Hadid
2018-06-13 09:18:58
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If you're at a café chatting with friends you might discuss how hard it is to find a job in these times of recession. You might discuss how the cost of life has gone up, how housing prices are over the roof and off limits, how much harder it is to get a loan to get anything done, and how the market is saturated with products and services and can't come up with a product that's marketable enough.

But if you look at it closely some recessions are passing while others are more structural. One of the structural causes of recessions is the real estate market, as when it is overpriced people tend to go into debt, be it households and individuals, corporations, the government or the financial market, because they all need real estate. But once the real estate market loses shares of value, people can no longer sell property to pay off debt so the debt to equity ratio suddenly flies off the roof.

wconmcri0001_400So what's a recession anyway? Is it when the GDP fails to grow? Because the GDP often does not take the black market into account. Is it when the per capita GDP falls? Is it when debt skyrockets? Is it when unemployment rates are very high? When purchasing power decreases significantly? Defining a recession is like trying to define “normal behavior” or “abnormal behavior.” What's the normal thing to do? Does 50% of the population have to do something for it to be considered “normal?” Or if a small group does something, is it considered “normal?”

For definition purposes, the definition I tend to work with when it comes to recessions is when the debt  surpasses equity in the debt to equity ratio. I know it's not a great working definition. But when in a household, a corporation, a government, a nation, a region or worldwide, when debt surpasses equity, you have a crisis. That is take whatever you own (your assets) and look at your debt. If you couldn't pay back your debt by selling your assets, you have a recession.

I know this isn't a great definition. Some countries don't have debt or significant debt yet have high levels of unemployment, high housing prices and a high cost of life. Others have a high debt to equity ratio, but lead comfortable lives. This is why I'm dedicated an entire fireside chat to recessions, in which I'll try to cover every angle of recessions. 

What causes recessions?

For clarity purposes, I'll discuss what causes recessions at the household level, at the corporate level, at the financial level and at the national level.

At the household level:

Factors that cause recessions at the household level include:

-Taking risks with debt, including for education, transportation and housing purposes.

-Opting for higher debt options rather than safer debt options, including higher debt for housing, transportation or education. Free colleges exist, you can get a car for a couple of thousand dollars and there are options for cheap housing.

-Failing to bring income or loss of income, or reduction in income.

-Having a skillset that declines in value (for example computer engineering) or losing a skillset (through accident, injury or illness) or not having new or adequate skills.

-Illness or health conditions that depend expensive treatment.

-Lack of emotional stability, personal stability (divorces, complicated personal situations) or lack of organization or not getting tasks done or refusing to get tasks done.

At the corporate leevel

Factors that can cause recessions at the corporate level include

-Taking risks with debt, including opting for higher production cost debt when you could opt for lower production cost debt (opting for expensive rather than cheap machines, opting for expensive rather than cheap real estate, opting for expensive rather than cheap human resources).

-Failing to bring in income including because of lack of sales, lack of a stable clients based or lack of a base of informed clients, either because of lack of advertisement or because clients can not connect to the product or don't know how to use the product.

-Emotional factors. Lack of emotional stability at the corporate level.

-Personal factors. Hiring people who lead reckless lives and who treat other people recklessly.

-Organizational factors. Not having clear plans in case there's a vacancy in leadership, reckless leaders, inability to build a stable organization.

-Inability to get the tasks done. You have a client base but can't provide the tasks they ask you to provide.

-Raw material, real estate and equipemtn price fluctuations. If you're a taxi driver, the worst day of your life will be when car prices double, gas prices double and rent doubles. 

At the financial level

Here are some reasons that can cause a recession at the financial level:

-Households and corporate institutions not repaying their debt, not paying their debt on time, or constantly asking for debt restructuring or resettling.

-Higher interest rates.

-People withdrawing their money from financial institutions.

-Raw material, equipment and real estate price fluctuations. Hikes mean people can no longer afford them or to resettle their debt, price falls mean people can no longer afford the income to repay their debt.

-Low or empty cash reserves.

-Printing money, which tends to cause raw material, equipment and real estate prices to go up.

At the national level

Here's what can cause recessions at the national level:

-Households who are in recession

-Corporations who are in recessions

-A financial market which is in recession.

Recession cycles

The question is who starts the recession cycle? In some economies recession cycles can start with houshold recessions, while in other economies it can start with corporate recessions, while in others it can start with financial market recessions.

Here's what you'll hear in cafés and pubs. The government, they're vultures. They'll allow the financial market to behave in strange ways. Or those corporations, they're vultures, they'd do anything to make a quick buck. But people rarely blame recessions on households.

So here's a table to sum up how recession cycles occur.

 

The government

The financial market

Corporations

Households

Households

The government sponsors loans, households have more disposable income.

 

The financial market makes it easier for households to access debt. Households have more disposable income but can't repay their debt.

Households use savings or debt to start corporations. But corporations need households with income so they can have consumers.

Households depend on other household's savings for debt. If households stop saving, interest rates go up and it's harder to get a loan.

Corporations

Prices go up because households have more disposable income. Households can't repay their loanss, consumption goes down.

 

Corporations benefit from the financial market granting households loans, but then loses money because households can no longer afford loans. Corporations borrow money to expand only to see households can't afford to repay the debt.

Corporations trade with other corporations but need both corporate consumers and household consumers to stay viable.

Corporations depend on household debt for purchases. Housholds no longer save, don't have disposable income, corporations lose their income.

The financial market

Corporations make money and start repaying loans, but start making more loans to expand. Households can't repay their debt, financial market collapses.

Corporations and households borrow from the financial market. Financial market goes up. Households can no longer afford to consume and corporations lose their clients, the financial market collapses.

The financial market lives off lending corporations and collecting their debt payments. If corporations are not viable, the financial market crashes.

Households are no longer saving and are in debt. Corporations no longer sell products and lose their consumer base. Financial markets have neither consumer savings nor corporate savings and income.

The government

The government must encourage households to take up more income by granting them loans to revive the financial market so the corporate market can be revived.

The government lowers interest rates, encourages the financial market to start giving back loans, and the cycle perpetuates.

The government encourages the financial market to lend corporations so corporations can get back into business and start trading with the financial market and with other corporations and households.

The government encourages households to go in debt so corporations and the financial market can benefit from consumption.

What can governments do to prevent recessions?

East Asians believe in A type and B type perrsonalities. They believe A type is the insecure type of personality, and B type is the confident type of personality. If anything, the economy is in a state of perpetual insecurity.

Households don't have income, corporations don't have income. Corporations don't have income, the financial market has no income. Households, corporations and the financial market have no income, the government has no income. Now the government could play the olligarchy card and pretend there's no recession, and censor any type of economic news like it's done in many countries. But in most countries people believe in fixing the economy.

So what can you do? Prevent people from going in debt, and tell corporations to be satisfied with a minimal base of consumers, tell the financial market to be satisfied with small numbers? Or encourage consumers and corporations to go into debt, only to face eventual crashes?

I would tend to think household and corporate debt can be a good thing if you have smart people who know how to make income. Furthermore, recessions arise when debt outstrips equity, that is when people have so much debt they wouldn't be able to pay it back even if they sold everything they had. So the best way perhaps is to allow households and corporations to go into debt, but to make sure that everyone has enough equity so that if needed, they can sell everything they have to get out of debt. As for external factors such as raw materials, equipment and real estate, those tend to depend on a lot of factors including security, reliable transportation, technology development speed and investment or overinvestment. As one of my friends likes to say, business is common sense, and when people start losing common sense, you have recessions.


      
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