Difference between Recession and Deflation

Readers Question: What is the difference between a recession and deflation?

A recession is a period of negative economic growth. The official definition is a decline in output (Real GDP) for two consecutive quarters.

economic-growth-quarterly
UK economy entering recession from Q2 2008 until Q4 2009.

 

Usually, in a recession, you will get a fall in the inflation rate.

uk-inflation-since-1970

From 2010, there is a fall in the rate of inflation. Prices are still rising – but they are rising at a slower rate.

Deflation

Deflation is when we get a negative inflation rate i.e. falling prices.

Since the second world war, recessions have generally not led to deflation – just a lower inflation rate. The last two recessions were caused by attempts to reduce a high inflation rate.

In 2009, there was a brief period of deflation (using RPI method)

For a short-time in May 2008, the RPI (which includes the cost of interest payments) became negative – deflation. But, this deflation did not last very long.

deflation-inflation-20s-30s

In the 1920s and 30s the UK experienced a considerable period of deflation (falling prices) This was due to

  • Low economic growth
  • Tight monetary policy – high real interest rates
  • Overvalued Pound – Gold Standard caused imports to be cheaper but exports less competitive

Difference between Recession and Depression

Interestingly many see deflation as a sign that the economy is experiencing a depression rather than just recession. (Other features of depression include a much bigger and longer fall in GDP)

One thought on “Difference between Recession and Deflation

  1. I have a slight quibble with the above definition of deflation. Any definition should include the point that the word “deflationary” does not necessarily apply to a scenario where prices are falling. “Deflationary” is often used to refer to a policy or event which dampens or reduces economic activity (but not necessarily to the extent to causing prices to fall).

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