The Room Where [Recessions] Happen

Gross Domestic Product (“GDP”) is a common measure of a country’s economic activity, and the growth or change in GDP is a metric for economic health. In the first quarter of 2022, the US reported a negative 1.6% annualized GDP growth rate, indicating a slowdown in economic activity. There is common belief that two consecutive periods of negative GDP growth establish a recession. Historically, any such back-to-back declines have aligned with official recessions. With the most recent second quarter results reporting a negative 0.9% annualized GDP growth rate, many are concerned we have crossed into a recession. However, conventional wisdom does not reflect the technical definition, as defined by the National Bureau of Economic Research (“NBER”) - the entity in charge of business cycle dating.

The NBER Business Cycle Dating Committee identifies and maintains a chronology of US business cycles (e.g., peaks, troughs, expansions, and recessions). An official recession represents the period between a peak of economic activity and its subsequent lowest point (i.e., the trough). According to the NBER, a recession involves “a significant decline in economic activity that is spread across the economy and that lasts more than a few months,” and is evaluated on three criteria: deep, diffusion, and duration. While the committee notes that for a recession to occur each criterion must be met individually, at least to a certain degree, it is possible that “extreme conditions revealed by one criterion may partially offset weaker indications of another.” This can be seen in the most recent recession surrounding the onset of the COVID 19 pandemic. In this case, the depth and the diffusion of the drop in economic activity was extreme enough to classify as an official recession even though the duration was short (~2 months).

The NBER’s definition requires a recession to broadly impact the economy. In evaluating economic health, the committee reviews numerous economy-wide measures of economic activity. These measures include factors such as unemployment statistics, consumer spending, retail sales, and industrial production. However, there is no set rulebook for which factors the committee must consider, nor a formula for how much a specific factor should weight into their decisions. As a result, the factors analyzed over time may be fluid and dynamic. However, the NBER has noted that over the last several decades the committee has put the most weight on real personal income (less transfers) and nonfarm payroll employment.

While GDP measures certainly factor into the NBER’s decisions, it is not the sole determinant in declaring a recession. Looking back, the recessions surrounding the Tech Bubble of 2001 and the Great Financial Crisis both officially began before two consecutive quarters of negative growth took place. Likewise, it is theoretically possible that a recession is not formally declared even faced with two consecutive quarters of negative GDP growth, especially if other measures of economic activity remain at healthy or strong levels.

Due to the nature of the NBER’s approach, determining the dates of business cycle turning points is all retrospective. The committee waits until it has sufficient data points such that it minimizes the risk of needing to make major revisions to announcements of cycle dates. However, the committee does not meet on a fixed schedule and its meetings are not publicized. They are closed-door meetings that are held when the Board Chairman, Stanford economist Bob Hall, calls for them. When the economy is generally healthy, the committee may not meet at all, leading to long gaps between meeting dates. As a result, there is a delay between when a recession officially begins, and it when it is formally announced. For example, the February 2020 recession was announced in June of 2020 and the April 2020 trough (or end of the recession) was announced in July of 2021. While conventional wisdom indicates the US may be in a recession following the announcement of a back-to-back contraction in GDP, it could be a while before we know the NBER’s official and formal diagnosis.

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