Quarantine may still be the norm for many, but we may be approaching the light at the end of the tunnel. At least in Manitoba, some businesses and recreational areas have opened in the last week. Something to be celebrated for sure, but is a recession still in the cards?

Just because some businesses are opening doesn’t mean our world and economy will go back to normal, at least not right away. No one knows precisely how this will play out and how bad the recession will be.

Below we look at the recession of the early 1980s. We examine what the cause(s) was, how recovery happened, and how it compares to today. If you haven’t read part 1 & 2 you can find them below:

• Recession History Pt. 1 – 1929
• Recession History Pt. 2 – 1973 – 1975

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What is a Recession?

Before looking at the 1980s recession, it is important to understand what a recession is.

A recession is a macro-economic term that refers to a significant decline in general economic activity. This is often measured by two consecutive quarters of negative growth.

The following are some general characteristics of a recession:

• Real GDP decreases.
• Firms faced with unwanted inventories and declining profits reduce production, postpone investment, curtail hiring, and may lay off employees.
• Business failure outnumber start-ups.
• Falling employment erodes household incomes and confidence.
• Consumers react by spending less and saving more, which further cuts into sales, fueling the recession.

Historic Recessions

In the last 100 years, there have been 18 recessions. This means that one occurred roughly every 5.5 years. Based on the table below, the average amount of time from the end of one recession to the beginning of the next was just over 4.5 years. Each recession lasted for an average of just over one year.

Below is a table outlining those recessions:

Dates	Duration	Time since Previous Recession	Business Activity	Trade and Industrial Activity
Jan 1920 – July 21	1y 6m	10m	-38.1%	-32.7%
May 1923 – June 1924	1y 2m	2y	-25.4%	-22.7
Oct 1926 – Nov 1927	1y 1m	2y 3m	-12.2%	-10%
			Peak Unemployment	GDP Decline
Aug 1929 – Mar 1933	3y 7m	1y 9m	24.9%	-26.7%
May 1937 – June 1938	1y 1m	4y 2m	19%	-18.2%
Feb 1945 – Oct 1945	8 m	6y 8m	5.2%	-12.7%
Nov 1948 – Oct 1949	11 m	3y 1m	7.9%	-1.7%
July 1953 – May 1954	10m	3y 9m	6.1%	-2.6%
Aug 1957 – April 1958	8m	3y3m	7.5%	-3.7%
Apr 1960 – Feb 1961	10m	2y	7.1%	-1.6%
Dec 1969 – Nov 1970	11m	8y 10m	6.1%	-0.6%
Nov 1973 – Mar 1975	1y 4m	3y	9%	-3.2%
Jan 1980 – July 1980	6m	4y 10m	7.8%	-2.2%
July 1981- Nov 1982	1y 4m	1y	10.8%	-2.7%
July 1990 – Mar 1991	8m	7y 8m	7.8%	-1.4%
Mar 2001 – Nov 2001	8m	10y	6.3%	-0.3%
Dec 2007 – June 2009	1y 6m	6y 1m	10%	-5.1%
Mar 2020 – Present	–	10y 9m	–	–

Note: The list of recession above is for the U.S. However, this has a high correlation with the Canadian economy and is for illustration purposes.

The Recession of the Early 1980s

Much like the dirty thirties, the recession of the 1980s is technically split into two parts. The first starting in January of 1980 and lasting 6 months till July of 1980. After a short 1 year recovery, the second part started in July 1981 and lasted 1 year 4 months till November of 1982.

This recession is also referred to as the Regan Recession, for reasons we will talk about below. Inflation during this time had been increasing to unhealthy levels. At its peak inflation reached 13.5%.

GDP was at levels unseen since the great depression. GDP was reported as negative for 6 of the 12 quarters. The worst quarter was Q2 of 1980 when GDP was -8.0%.

Unemployment also rose to extreme levels. At its peak, it reached 10.8% in November and December of 1982. Unemployment was above 10% for 10 months.

What Caused the Recession

The cause(s) of any recession are always up for dispute. However, now as we are in part three it seems that there are often some commonalities. Below we look at two of the main reasons that pushed the economy into a recession in the early 1980s.

Tight Monetary Policy

As mentioned above, inflation going into the early 80s was running rampant. When inflation is as high as it was in 1980 (13.5%) there can be a lot of adverse effects.

If inflation gets too high and is not dealt with, every dollar you hold decreases in value over time. To deal with it, governments will raise interest rates. The increase in interest rates increases the cost of borrowing. This, in turn, lowers economic expansion and business development. To read more about our take on inflation check out the following:

• Inflation: The Thief of Your Future
• Helicopter Money to Increase Short-Term Inflation 2020?
• Inflation is Higher Than You Think

This was the case in the early 1980s. With inflation in the low teens, the monetary policy had to be adjusted. In 1979 the federal reserve switched from trying to manage the price of bank reserves, to trying to manage the quantity of nonborrowed bank reserves. This was seen as a better way to control inflation, which had risen dramatically in the 1970s, as seen below:

This change in monetary policy saw increased volatility in the federal fund rate; the rate at which commercial banks borrow and lend their reserves to each other overnight. See graph below:

As seen in the graph above the federal fund rate increased dramatically. This, in turn, would have had a large impact on the interest rates that consumers and businesses borrow at. As interest increased, economic expansion slowed, business development dropped off, and consumer spending dipped. High inflation had not turned deflationary.

Iranian Oil Embargo

In 1979 there was the Iranian Revolution. This caused the supply of crude oil to decline significantly. With the decreased supply, prices for crude oil nearly doubled in 12 months to $39.50.

Although during this oil crisis, oil output only declined by ~7%, it led to panic buying, increased prices, and long lines at the gas stations. Some states implemented restrictions on who could buy gas when. For instance, you could only buy gas every other day, depending on if the last digit of your license plate was odd or even.

Although the actual effects on oil supply were not as detrimental, people were spooked because it was the second oil crisis in a decade.

This energy crisis was felt even more in the US than in a lot of countries due to its fiscal policy. In 1979 the US government regulated oil prices. They ordered refiners to restrict supply to build up inventories. This restriction also had a direct effect on prices.

What Helped the Recovery

There were several factors that had positive effects on the economic recovery. Some made more immediate impacts than others, and the value of some is still questioned. In this next section, we look at another change in monetary policy, the Economic Recovery Tax Act of 1981, and increased defense spending.

Change of Monetary Policy

As was mentioned above, monetary policy was changed in 1979. However, this change was short-lived. In the fall of 1982, the federal reserve changed its approach back to targeting the price rather than the quantity of money.

By doing this, the federal reserve was able to keep the federal funds rate more stable. Thus, it had more control over interest rates and therefore inflation.

Lowering Taxes

In 1981 the Economic Recovery Tax Act (ERTA) was established. It was the largest tax cut in US history. The new tax act cut the top income tax rate and allowed for faster expensing of depreciable assets.

Within the tax act, there were incentives for small businesses and retirement savings. It also established inflation indexing for tax brackets. This meant that the tax brackets would increase with annual inflation. This was a significant change given the double-digit inflation at the time.

The Economic Recovery Tax Act allowed businesses to expand quicker and write off depreciating expenses quicker. It also allowed consumers to have more money in their pockets which increased consumer spending.

Among other changes and incentives that came with the new tax act were the following:

• Easier rules around employee stock ownership plans,
• Expanded eligibility for Individual Retirement Accounts (IRAs),
• Reduction in capital gains tax, and
• Higher estate-tax exemptions.

In September of 1982, there were amendments made to the ERTA. These were done because the effect was not as immediate or pronounced as it was projected to be.

Boosted Defense Budget

Prior to the 1980s defense spending in America was increasing at about 2.2% year over year. In 1976, the US military expended $157.5 billion (1982 consistent dollars). This represented 5.6% of the economy measured by GNP. The following table, taken from this article shows national defense spending between 1977 and 1985:

Year	Gross National Product	National Defense	% of GNP
1977	2,958.5	159.2	5.4
1978	3,115.1	160.7	5.2
1979	3,195.3	164.3	5.1
1980	3,187.0	171.2	5.3
1981	3,248.7	180.3	5.5
1982	3,165.9	193.8	6.1
1983	3,279.0	206.9	6.3
1984	3,489.8	219.4	6.3
1985	3,582.1	235.7	6.6

As seen in the table above, after 1980 defense spending started to increase more substantially. Between 80 and 85, spending increased by 5.5% year over year.

The only time prior, that national defense spending had been this high was in 1968. In 1968, the $236.6 billion spent represented 10% of GNP. However, in the 1960s, there were high manufacturer utilization rates and low unemployment.

During the 1980s, capacity utilization was relatively low and unemployment was rising.

We also have to remember that inflation in the 60s was a lot lower than the double-digit inflation in the 80s.

The increased defense spending had a direct effect on manufacturing. By the end of 1985, the number of businesses that were producing 10% or more of their output for defense went from 21 to 45.

This increased demand for defense manufactured goods saw employment rise as well. Total defense jobs between 1980 and 1985 increased by nearly 22%. Part of this increase was a dramatic 45% increase in the private sector related to defense.

Applying the 1980s Recession to 2020

A lot has changed since the 1980s, but valuable insight can still be gleaned from those years. How do the topics discussed above compare to the current 2020 economic landscape?

Monetary and Fiscal Changes in 2020

In 2020 there have been huge stimulus packages rolled out by both the Canadian and American governments. They have injected billions and trillions of dollars into their respective economies. This has come in the way of helicopter money, tax breaks, and incentives.

We also still see the governments trying to control the price rather than the quantity of their money. Interest rates in America are at 0% and Canada isn’t far off at 0.25%.

We believe that although interest rate cuts make access to capital easier, these cuts will not have nearly as big of an impact as desired. You can read our thoughts on that in the article: Interest Rates: Cuts are Not the Answer.

Defense Spending in 2020

To our understanding, North America is not on the verge of war; At least not us lovable and friendly Canadians. However, defense spending, specifically in the US is still at unseen levels.

Defense spending in America is estimated to be $750 Billion Dollars. That is a year over year increase of ~3.4% in the last 35 years. That year over year increase has outpaced average reported inflation over that time (2.62%) by nearly 1%.

As for defense spending compared to the Gross National Product, that is a different story. GNP in Jan 2020 was reported as $19.5 Trillion. That means defense spending as a portion of GNP is roughly 3.85%.

Since war is not on the horizon (as far as we know) it would be hard to justify increasing defense spending to 5%+ of GNP. If the government wants to inject more money into the economy, they will have to look at different areas to spend money. In rural Canada, may we suggest some money be directed to the highways?

Conclusion

Many people will try to tell you they know how everything will play out. However, most people don’t have a hot clue. We haven’t seen double-digit inflation yet, but that is not out of the question.

No one knows how this recession will play out, but big changes have already taken place. The longer that quarantine and restrictions on businesses are imposed, the slower the recovery will be.

As mentioned above, the effectiveness of the actions taken in 1980 were disputed and still are disputed. Much the same, the validity of the economic changes that have been imposed in 2020 will be debated for many years to come.

1981 NY Times article on the recession

https://www.thebalance.com/the-history-of-recessions-in-the-united-states-3306011

https://www.frbsf.org/education/publications/doctor-econ/2003/january/monetary-policy-1970s-1980s/

https://tradingeconomics.com/canada/interest-rate