What it means and how it affects the crypto market By DailyCoin


Recession for Dummies: What It Means and How It Affects the Cryptocurrency Market

While there’s a slim chance you haven’t heard the term “recession” before now, it’s all over the news, you may not be entirely familiar with its premise. That being the case, let’s get into what exactly the financial term portends, which is largely cast as extremely undesirable in economics.

Before moving on to explain the basics, we want to make it clear that no part of this article represents financial advice, and DailyCoin is not acting in that capacity. This guide simply serves as educational material to provide a summary of what one might need to know about the recession and how it affects financial markets⁠ in general, including crypto.

So, without further ado, what is a recession, beyond being the elements of impending financial collapse and extreme fiscal uncertainty that often results in economic crisis?

Understanding the Recession’s Place in the Economy

To begin this summary, it must be understood that the consequences of a recession, if not promptly alleviated by the relevant authorities and enacted the necessary stimulating economic measures, can be devastating for both a nation and its citizens. But how does an economy get to the point of recession in the first place?

Generally speaking, a recession, according to the National Bureau of Economic Research (NBER) simply refers to a significant economic downturn that permeates vital areas of the economy, typically lasting several quarters of a year or more, depending on the situation in the country. affected nation.

But to be more precise, a nation often faces a recession when its gross domestic product (GDP) shows a steady decline for at least two fiscal quarters.

While a recession is most noticeable in a nation’s GDP, it is also characterized by other indicators, including inflation, declining income/income levels, an increased level of unemployment, reduced industrial production, and wholesale sales and diminished retailers, among other aspects.

It’s also important to note that when GDP is steadily declining, it can take some time before people start to feel the pain. So, for example, if a nation is facing a recession, there is also a very good chance that inflation is just around the corner, and when there is inflation, people end up spending more than normal in their daily lives.

Similarly, a business struggling to stay afloat during an economic downturn may be forced to cut operating costs, which may include laying off staff, which in turn leads to increased unemployment rates, which that feeds back into the economic recession, and the chain goes on and on.

That said, no matter how bleakly the press paints it, or its impact on the economy, a recession is a completely normal part of the business cycle and trend progression; everything except when nothing is done to alleviate the situation.

As may well be the case, a recession often results in an economic change or a major alteration in periodic financial projections.

What are the causes of the recession?

Recessions are caused by a variety of variables, most of which are financial in nature, but this of course means that recessions can occur through both “natural” and “artificial” means.

For example, severe or extreme climate change can trigger a “natural” recession, while systemic economic collapse, technical shortages, and the slow adoption of modern/revolutionary procedures, among other things, can trigger an “artificial” recession. . Either way, the following are typically the main driving forces behind the recession in each nation.

excessive debt

One of the fastest ways to over-borrow is to keep borrowing; it’s that easy. Unsurprisingly, a nation that continues to borrow until it can no longer finance its debt is one loan away from recession. In many of these cases of excessive debt resulting in a recession, the nation’s mounting debt significantly exceeds its GDP, causing the economy to flip.

asset bubbles

There are cases where the growing demand for an asset that lacks sustainable capitalization can lead to an unprecedented economic crisis. Using Ponzi schemes as an example, if people from all over the world invest in them, money flows from one place to another.

However, when such schemes fail, the specific people who invested in them are not the only ones who lose money; the nation of the victim also suffers the downfall, as the money leaves the country’s economy without exchange of value. Similarly, when people invest in asset bubbles, often driven by emotion and irrational exuberance, one can easily predict an impending recession, especially when the bubble bursts, causing prices to plummet and sales to ensue. of panic.

Hyperinflation

Hyperinflation begins with “regular” inflation and is capable of throwing a nation into a recession. In general, inflation refers to an upward trend in the prices of goods over a period. While this is not completely out of the question, excessive inflation can be very dangerous, especially when a significant portion of the population lives in extreme poverty or well below the median income level.

overdeflation

While hyperinflation is bad for the economy, excessive deflation can make things worse. When excessive deflation occurs, the prices of goods and services fall rapidly, and if the deflationary feedback loop becomes too strong, individuals and businesses can stop spending altogether.

Generally, in these situations, the economy is undermined by people who do not spend, resulting in a sharp decline in production and, in extreme situations, a recession can be triggered.

technological advance

This one might be a bit of a head scratcher, after all, it’s pretty weird to imagine how technological advances could also lead to a recession, right? Although breakthrough technology advances often increase productivity in the long run, the early stages, which largely involve adoption and adaptation, can take a while.

That said, the transition period between the launch of a revolutionary technology such as blockchain, Web 3.0, 5G Internet, AI, AR, etc., can often lead to less productive systems, ultimately leading to an economic boost. slow and, in the end, recession.

economic shock

There are several factors capable of triggering an economic shock, most of which are artificial or driven by specific government actions. For example, actions such as raising tax rates, tariffs, or the prices of high-demand goods like gas or fuel can trigger a recession.

Although the government does not usually invoke economic crises, some can occur as a result of natural disasters or epidemics. Think about the COVID-19 pandemic, the resulting lockdown, and its overall impact on the global economy.

How to predict a recession before it happens

There are many ways to predict a recession even before it happens, and some warning signs in particular may suggest a recession is imminent.

An impending economic downturn or crisis may be indicated by signs in the data, such as an inverted yield curve, which generally indicate a significant risk to the economy, albeit usually in the shorter term. Similarly, declining consumer confidence, a sharp drop in the stock market, rising unemployment, and a decline in the ‘Leading Economic Index’ (LEI), are among other factors that can help determine whether a nation or economy is about to face a recession. .

How does the recession affect the crypto market?

First of all, it is important to note that the global crypto market, even at its historical best, is worth only a fraction of the global economy. For more context, the crypto economy surpassed $3 trillion in market capitalization during November 2021, the highest it has ever recorded to date, although it sits below $1 trillion at press time.

By comparison, global GDP totaled approximately $94.93 trillion in the same calendar year, about 10% higher than in 2020.

Clearly, there is a wide margin between centralized and decentralized economies. As such, the cryptocurrency market may still be too small to cause a global market downturn on its own. On the other hand, if traditional markets suffer the same fate, it could have cataclysmic consequences for cryptocurrencies. In the end, the risk of exposure can vary depending on the market.

The crypto market, just like the traditional market, is not exempt from the ills of economic crisis or recession. Naturally, those most affected in the crypto market during a recession window would be investors, both individuals and institutions.

When there is an economic crisis of any magnitude, there is a high tendency among investors to try to offset their high-risk investment. Unfortunately, for most investors, especially individuals, cryptocurrency investments are considered “high risk” and may be among the assets that will suffer an investment pullback in a recession.

Among other things, the investment pullback can lead to panic selling, which in turn causes sharp drops in the price and value of most crypto assets on the market.

The recession may also affect the crypto market in terms of human capital. To put it another way, as the crypto adoption rate grows, more projects emerge and job opportunities within the space follow, but the same goes in the opposite direction.

When a cryptocurrency organization relies heavily on cryptocurrency-dominated reserves, especially non-stablecoins, the risk of being dragged down by the effects of the recession is high. If such a company seeks to cut costs, as mentioned above as a common consequence, it can eventually result in widespread layoffs or at least pay cuts across the board. In the first case, rising unemployment may be on the horizon.

How to stay afloat during the recession

A recession typically causes everyone, including institutions and investors, to walk on eggshells and work to trade more proactively and in a more nimble manner than they should under normal circumstances. As such, each party implements various strategies based on what is most acceptable to them at the time.

For organizations, some of the best practices for staying afloat during recession and economic troubles is to reassess company goals and set strict priorities. Expenses and running costs are often evaluated and reduced, while new investments are left in the background.

Individual investors, on the other hand, may want to consider investing in companies with minimal debt, good cash flow, and strong balance sheets. However, it is equally important for them to avoid companies that are highly leveraged, cyclical or speculative. However, once again, we remind you that this is merely an observation and not financial advice.

Ultimately, while a recession can last for an indeterminate duration, ranging from two quarters to several years in some cases, it often leaves lasting marks on any economy.

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