Recession is more in the mind than in the Economy
Mar 29, 2009

Why do we have a recession now? No, I am not asking why and how recession began. My question is why it is continuing even today.

Our minds, whether at individual or at corporate level, have receded into postponement of spends, whether capital expenditure or revenue. This is because of the losses we say or think we have incurred in the recent market crash. This postponement of spends at individual levels has caused reduction of aggregate demand. It is thus the fear psychosis leading to recession today.

The remedy therefore lies in reversing the situation. If our minds are rejuvenated, this in turn will ultimately regenerate demand and re-energise the economy. No, we do not necessarily need to wait only for Government spending to revive the economy, as is said in the Keynesian theory. The revival of the economy can be made by aggregation of micro demands of individual persons and organisations.

Most of us say that we have lost money in the stock market, in mutual funds, in real estate etc. in the recent market crash. But you will agree that these were really paper money that we have lost, in most cases. Have we been adversely affected in our cash flows because of the market collapsing?

Banks created asset bubbles through hyping up the real estate market and through structured derivative products. They loaned money based on these bubbles and then lost money when the market collapsed. But this money, created by smart bankers, was something they never had in the first place. The losses are mostly in paper and thus notional. Unless it has affected cash flows adversely, we cannot say that the losses are real.

The impact on personal lives, however, has been severe and real. Thousands have lost their jobs and thus lost real earnings and suffered in cash flow terms. There is no denying this harsh truth.

Banks have stopped lending because they apprehend that more they lend the more they will lose (this has always been true). This has created a shortage of fund availability in the market. Industries have been forced to cut back on production on account of lower funds as well as lower perceived demand. The cycle has been completed with resultant job cuts and loss of employment and the vicious spiral is still growing. But it all started in the mind with fear in the market place.

Banks have to lend money to survive, that is their business. Industries need to grow to survive, they cannot hold back on production for ever. If they do, they will perish. We individuals need to live our lives normally (not recklessly though). For example, I need to replace my old car and not postpone the decision because running an old car is more expensive.

We need to spend normally to survive and this will allow the economy to function normally. This is true for banks, industries, government and individuals. When we remove fear and negative thoughts from our minds and carry out our economic and social functions in the usual course, aggregation of these individual micro-demands will rejuvenate the economy and recession will be on the run. Hakuna Matata.

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15 Responses

  1. Very well put Ujjal. Indeed a lot of this is in the mind and is pumped up by reporting in the media which further fuels fear. Its a bit like the herd going one way and then the other. During the boom time it wasn’t “that good” and now it isn’t “that bad” either. A lot of it is in the mind, as you say.

  2. Shashwati

    This is an extremely well written article..I loved it! I always believe, that remaining positive solves a lot of problems. We tend to get too bogged down by notional losses when all along we knew the risks associated with the investments..How I wish more people thought like you. As you have correctly pointed out it the fear psychosis which is adding to the so called recession. Hope to see some more articles like this!

  3. Arindam

    Good article, although I am not convinced that it is only Paper losses !!
    To lose value of portfolio even if on paper definitely affects liquidity and also the ability to invest more .
    You are correct that only mind set of healthy individuals well help change the trend, but we also need some industrialists to reduce the costs to more reasonable levels

  4. Thank you Arindam. A lot of the losses are paper losses through MTM accounting, but certainly not all. Secondly paper losses are real losses, but does not mean a “cash” loss. When cash losses take place you lose real money. You might like to read my post on “Profitability or Cashability”.

  5. Prince Asirvatham

    Ujjal, Like many others I listened to Obama speak last night about the economy. It was a moving experience confronting with him human greed and its demonic ability to destroy what is good in us and in our society. In retrospect, it seems so fundamentally stupid that we ceased to think cash and savings and were running wild with MTM and leverage. So many had piled on the bandwagon of profits that many of us, individuals, realised too late that we had gone beyond book losses to depletion of hard earned post tax cash savings. Book profits may constitute the bulk of the “empty” wealth but it has raised aspirations and good living far more widely. These wont go away in a hurry. Government spending in developmental activities can provide a helpful hand to the many lower income strata victims in the meltdown below cash levels. I am reminded of the comment made in boom times by an illustrious business competitor of ours ” Sales is vanity, profit is sanity,cash is reality” The hard knocks will destroy many of us but a new recovery cycle will start. Will we see beyond junk bonds, subprime and toxic assets to nip a new virus rearing its head ? Thanks for the time to ponder and benefit.

  6. Sanjay

    If only we decided to live for today as if there’s no tomorrow this “r” word would be out of sight!

  7. i am hoping that the global economy would recover from this economic recession. life has been very hard with these massive job cuts.

  8. the economic recession made a lot of workers jobless. my best friend and me lost our jobs because of job cuts. i hope that our economy would recover soon.

  9. the Economic recession made a lot of jobless people in my own country. We could only hope that our economy becomes strong again.

  10. Our country was also hit hard by the Economic Recession. At least we are seeing some signs of economic recovery now. I hope that we could recover soon from this recession.
    ……

  11. Our country had been so much affected by this Economic Recession. there are lots of job cuts and company shutdowns. We are seeing some signs of economic recovery right now and we hope that it would continue.
    :

  12. I think we are also seeing some signs of recovery from the Economic Recession. Of course, we have no idea of how long it will take to completely recover, but some say it’s going to be longer than for the other recessions in decades. I also scanned an article yesterday that said business owners need a new set of tactics to do well during recovery.

  13. during the height of the economic recession, our online and offline business in the US have suffered some major drop in sales. now our sales are getting slowly back to normal.

  14. siddarth biswas

    sir,
    i am a bit confused on the definitions of keynesian theory and monetarism. could you please explain. i am just a engineering graduate , please excuse my immaturity. thank you.

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