Sep. 2, 2007: What is the difference between a recession and a depression?

A drunk is on his hands and knees looking for his keys under a streetlight.

A policeman approaches him and asks, “What are you doing?”

The drunk replies in a slurred voice, “I’m looking for my keys.”

The policeman further inquires, “Where did you drop them?”

The drunk says, “Over there,” pointing to the end of the city block.

The policeman scratches his head and says, “If you dropped the keys over there, why are you looking for them over here?”

And the drunk replies, “Because the light is better over here.”

How does this relate to mortgage banking? Everyone knows that we are playing on a different field than we were six months ago. (If anyone in this business doesn’t think so, maybe they should be in a different business.) Realizing the reality of new underwriting, new pricing, etc. (looking for the keys where he dropped them instead of where the light was) will be critical going forward. Businesses are changing. For example, Wells Fargo announced that they were ceasing originating home equity products through their correspondent channel.

What the heck happened yesterday? If you think that the dollar is going to sink further, what is the easiest way to capitalize on it? Sell dollar-backed securities – like Treasury securities. Commodities (precious metals, grains, etc.) are soaring, dollar is sinking (reaching a 30-yr low versus the Canadian dollar, for example), and with lower rates everyone is concerned about inflation. The yield on the 10-yr is up to 4.69%. (As a side note, since oil is priced in dollars, and the dollar is worth less versus other currencies, the price of oil increases to us.) So generally speaking, the rate cut earlier this week might stimulate things, leading to an increase in economic activity, which may lead to inflation and higher rates!

“The difference between a recession and a depression is a depression has high rates.”? Perhaps.

“A recession is when your neighbor is out of work. A depression is when you’re out of work.”

The traditional definition of a recession is “a decline in the Gross Domestic Product (GDP) for two or more consecutive quarters.” However, this definition doesn’t take into consideration changes in other variables such as unemployment, consumer confidence, or inflation, nor does it focus on when a recession really begins. Generally speaking, one could say that a recession as the time when business activity starts to fall until the time when business activity bottoms out and begins to improve. One could define a “depression” as “a recession that lasts longer and has a larger decline in business activity”. So some economists believe that a depression is any economic downturn where real GDP declines by more than 10% and a recession is an economic downturn that is less severe. We have not had any depressions since the 1930’s, and the worst recession in the last 60 years was from late 1973 to early 1975 where real GDP fell by 4.9 percent.