Definition of Recession and the Predicted Recession in the Malaysian economy

What is economic recession? Economic recession is defined as a decline in the country’s Gross Domestic Product (GDP) growth for about two or more consecutive quarters in a particular year. Gross Domestic Product (GDP) consists of the monies spent by consumers, the investments made by private companies and the government, government spending on labor and products, and the net total of a country’s exports. As a part of a normal business lifecycle, when an economy that grows over a period of time tends to slow down. An economy typically grows for 6 to 10 years and later is likely to go into a recession for about 6 months to 2 years. Thus, economic recession is a declining phase of the business life cycle when there decline in economic activities spread across the economy, lasting for more than a couple of months, normally visible in Gross Domestic Product or GDP, employment, real income, industrial production and wholesale or retail sales.

A recession has many characteristics that can occur simultaneously and can include declines in real-time measures of overall economic activities. Recessions are the result of reduction in the demand and may also be associated with falling prices also known as deflation, or on the other hand it could also be due to increasing prices also known as inflation or a combination of increasing prices and stagnant economic growth. A prolonged or severe recession is referred to as an economic depression. Although the difference between a recession and a depression is not clearly stated, it is often believed that a decline in Gross Domestic Product or GDP of more than 10% constitutes a depression.

The cause of an economic recession primarily depends on the actions taken to control the money supply in an economy. The Federal Reserve is the agency responsible for maintaining the delicate balance between money supply, interest rates, and inflation. When this delicate balance is tipped, the economy is forced to correct itself.

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Furthermore, the Federal Reserve sometimes deals with these situations by dumping huge amounts of money supply into the money market. This helps to keep interest rates low, even as inflation rises. Inflation is the rise in the prices of goods and services over a period of time. So, if inflation is increasing, it means that goods and services are costing more now than they did before. The higher the level of inflation, the smaller the percentage of goods and services is which can be bought with a certain amount of money. There can be many contributing factors for inflation, which include but are not limited to increased costs of production, higher costs of energy and the national debt.

In an environment where inflation is prevalent, people tend to cut out things like leisure spending. They also budget more, spend less on things they usually indulge in, and start saving more money than they did. As people and businesses start finding ways to cut costs and derail unneeded expenditures, the GDP begins to decline. Then, unemployment rates will rise because companies start lying off workers to cut more costs, because consumers are not spending like they were. It is these combined factors that manage to drive the economy into a state of recession.

An economic recession can be expected before it actually happens. There are many ways to spot a recession before it actually happens. For instance, by observing the changing economic landscapes in quarters that come before the actual onset we can predict whether a recession is about to occur or not. You will still see GDP growth, but it will be coupled with signs like high unemployment levels, housing price declines, stock market losses, and the absence of business expansion. When an economy sees more extended periods of economic recession, it goes beyond a recession and is declared that the economy is in a state of depression.

On the other hand, the benefit of an economic recession is that it will help to cure inflation. As a matter of fact, the delicate balancing act that the Federal Reserve struggles to pursue is to slow the growth of the economy enough so that inflation will not occur, but also so that a recession will not be triggered in the process. Now, the Federal Reserve performs this balancing act without the help of fiscal policy. Fiscal policy is usually trying to stimulate the economy as much as is possible through such things as lowering taxes, spending on programs, and ignoring account deficits.

Currently the global economy is facing a downturn; In Malaysia the economy has been spotted declining since the first-half of 2008 .This decline may spell bad news for us as it may result as a recession. However, it has been predicted by the government that the economy is not going to be insulated from the global downturn. It was clearly stated by the current Prime Minister Datuk Seri Abdullah Ahmad Badawi that Malaysia would be able to weather the storm brought on by the U.S. credit crisis as we still have strong economic fundamentals as well as being politically stable. In his statement he said “We have very strong reserves, our surplus is still strong, our domestic savings are also very high and our currency is also stable and not subject to fluctuation,” He also said “”We have the strength and the resilience of Malaysians as we have faced it before and our banking system is still strong, there’s stability in the country and predictability in terms what’s going to develop politically,”. The Prime Minister admitted that it was not going to be easy, but with good cooperation with the public and the government our country could get through the recession with not much damage.

On the other hand, it has also been predicted that the Malaysian economy will most probably see a full blown recession this year given the steep deterioration in recent economic activities both locally and globally. Based on an article in The Star Online of 5th March 2009, it was predicted that the economy may contract by1.19% in 2009. It was clearly stated in the phrase “A poll of economists” expectations for 2009 projects the economy would contract by 1.19% this year as the slump in exports and slowing domestic demand bite hard especially in the first half of the year”. However, there were also predictions that the contractions of the Malaysian economy would be temporary and would recover later in this year. The Affin Investment Bank economist Alan Tan said “The first half will be weak but I am expecting stabilization late in the year on a recovery in exports and domestic demand”. This statement was also supported by another statement by the RHB Investment Bank Bhd economist Peck Boon Soon, however this time the economy was predicted to rebound in 2010. The table below shows the forecast growth of the Gross Domestic Product by Malaysia’s top financial institutes.

Besides that, in view of the deteriorating global economy and as a step to be ready for an economic recession, the Central Bank of Malaysia (Bank Negara Malaysia) has lately reduced the Overnight Policy Rate (OPR) by 25 basis points to 3.25 per cent. It’s clearly stated in the Malaysian Economy-Update Blog that the Malaysian economy is getting or expecting to get worse if no monetary and fiscal policy changes. To add liquidity into the system and reduce the cost of funds, the statutory reserve requirement (SRR) has been cut from 4.0 per cent to 3.5 per cent effective Dec’08. If domestic conditions worsen, amid subsiding inflation, the OPR may be slashed to 3.0 per cent or even lower. The reduction of interest rate has to be done cautiously as it may unintentionally lead to a weaker ringgit that would push up the cost of imports. The deficit fiscal target for 2009 has also been raised to 4.8 per cent of GDP, from 3.6 per cent previously. This may be justified as difficult times call for drastic measures. However, there are concerns that government revenue would be adversely affected by the falling commodity prices, which could subsequently enlarge the deficit to even exceed 5.0 per cent of GDP. All of this signs clearly states that the Malaysian economy is going into a recession. The graph below shows the decline of the GDP growth.

The Malaysian Institute of Economic Research (MIER) has also defined Malaysia’s current economic situation as a recession. Based on the article in the Malaysian Economy-Update Blog dated 5th of March 2009, MIER says Malaysia stands on the brink of recession as falling demand hits exports and manufacturing with growth expected to reach 0.5% this year. MIER forecast the economic growth for first half of 2009 will be negative which will put Malaysia in a technical recession, but will show positive figures in the second half of 2009. The Executive Director of MIER Mohamaed Ariff said “overall, it will be 0.5% growth for this year in the best-case scenario. The worst-case scenario is there is a 50% chance of a full-blown recession this year.” Furthermore, this has also lead to the reduction of employments which results in the downfall in the Consumer Sentiments Index (CSI). This is shown in the graph below.

Based on all the evidence provided above, it could be seen that the current Malaysian economy is going into a downfall and may result in a recession. Even though the government has not officially declared a recession it’s very important for us to be ready to face one as we do not know how bad it may result as. The predicted contraction of the economy by 1.19% will be one of the major causes of the recession as there will be a massive reduction in exports and domestic demands. The reduction of the Overnight Policy Rate by the Central Bank (Bank Negara Malaysia) is also one of the signs that Malaysia is going into a recession, this is because the reduction of the Overnight Policy Rate would result in the reduction of the GDP growth because less money would be invested in the economy and would lead to the downfall of the economy.

On the other hand, as stated by the Malaysian Institute of Economic Research (MIER) the reduction of employments and downfall of the Consumer Sentiments Index (CSI) shows that Malaysia would be facing a recession. However, as said by our respected Prime Minister, the downfall that is about to be faced by our country may not last long as, because Malaysia has very strong reserves, high domestic savings and also our currency is quite stable. This forecast recession is predicted to rebound in the third or fourth quarter this year this year or latest by 2010.

To sum it all up, a recession is not an event that is waited for, however it’s a part of a normal business lifecycle and it’s natural for it to occur in an economy every 6 to 10 years once. The best step to take during a recession is to minimize all of our expenditures and save as much as we can. Therefore we should always be prepared to face such situations as we may not know how bad the recession may be and how long it may last.