While we have all presumably heard the economic terms 'recession' and 'depression' discussed, we likely do not understand their objective meaning. To help you understand this economic dilemma, this article will explain these two financial terms and their differences.

Economic downturns are an awful period for everyone. We become worried about possibly losing our jobs and paying our bills. We also become alarmed at our investment funds losing their wealth.

While we have all likely heard the terms 'recession' and 'depression' thrown around, we probably do not understand their true meaning. And, more importantly, what the differences are between the two.

To help you understand and possibly prepare for the emotional twists and turns of an economic predicament, this article will explain these two financial terms and what you need to know about their differences.

What Is a Recession?

In a recession period, the gross domestic product (or GDP) will contract for at least two consecutive quarters. In a 'routine' recession, the GDP growth will slow down for several quarters before it diverts negatively.

Within a recession, there is also a drop in four additional crucial economic indicators: employment, income, manufacturing, and retail sales. As these reports are produced monthly, they generally signal a looming recession long before the GDP shifts negative.

The esteemed NPO -National Bureau of Economic Research (or NBER) - is the century-old nonprofit organization that formally defines the start and end dates of recessions within the United States. And they take a much broader viewpoint regarding recessions.

The NBER portrays a recession as 'a substantial reduction in economic activity, spread out across the entire economy, and persisting for more than a few months in time.'

The NBER key indicators include the following items:

A decline in real GDP,
A reduction in real income earned,
A rise in unemployment,
Delayed industrial production and resultant retail sales,
A noticeable lack in consumer spending.

The NBER's view of a recession takes a more general or overview perspective of the entire economy, meaning that a recession cannot be defined by one key factor alone.

To date, there have been nearly fifty recessions within economic history, from the 'Copper Panic' of 1790 to the 2008-2009 Global Financial Crisis. Interestingly, throughout the 19th and 20th centuries, recessions were relatively common.

Between the years 1945 and 2002, there were eleven recession cycles, which was fewer than everyone had witnessed in similar past periods. Certain economic commentators have used this notion as proof that our business cycles have become less economically volatile, as we modernize our lives.

Although less regular in occurrence, a recession's duration, impact, and triggers vary greatly.

Recommended reading: 7 Steps Towards Achieving Financial Independence

What Is a Depression?

A depression is a much longer and more damaging economic period than a recession. This is because they are experienced in years, not quarters, of economic compaction. For example, during the Great Depression, the GDP was a negative value for six out of the ten years experienced. And in 1932, it decreased by a record thirteen percent.

Unemployment reached levels as high as thirty percent. International trade dwindled by more than two-thirds, and prices fell more than thirty percent. The mayhem of the Great Depression was so significant that the effects lasted for decades, and the stock market did not recover until the year 1954.

The NBER has noted that economists differ in the period designating a depression period. For example, economic experts consider that depression periods will last only when economic conditions decline. However, the common insight is that a depression will extend until all economic activity returns to near-normal levels.

The Difference Between a Recession and a Depression

Recessions and depressions have comparable indicators and root causes, but the most significant differences are the severity, length of extent, and overall consequence.

A depression will span years rather than months, and normally witnesses elevated unemployment rates and a more acute decline in real GDP. And while a recession is generally limited to one country, a depression event is typically severe enough to have global commerce impacts.