Each time a recession looms, financial folk start fretting: Could it become a dreaded double-dip recession? While these types of economic downturns are rare — in fact, the US has experienced only one before — they're always a possibility.
Double-dip recessions are especially painful for both consumers and investors. They prolong the road to recovery, causing employment, wages, and investment opportunities to stagnate even longer than they normally would.
What is a double-dip recession?
A recession is a significant downturn spread across the economy that lasts more than a few quarters. A double-dip recession, as the name suggests, is a sort of dual-edged decline, in which the economy falls into a recession twice with a brief recovery period in between.
It's not an official designation used by the National Bureau of Economic Research (NBER), the private nonprofit that tracks business cycles and the start and end dates of US recessions. Still, the term is something economists and the financial media often use to describe or predict a country's economic course.
They also commonly refer to a double-dip recession as a W-shaped recovery, in reference to its shape on an economic cycle chart. These charts usually depict a center horizontal line at zero that represents average gross domestic product (GDP) growth in the long run. Points above the central line (positive) then indicate higher than average economic growth while points below the line (negative) indicate slower than average economic growth or economic decline.
When plotted, a double-dip recession forms a pattern of down-up-down-up that resembles the letter "W."
What causes a double-dip recession?
There are varied reasons why the economy might dip twice. In all cases, something occurs to interrupt the economy's recovery from the first recession. This might be a separate crisis that repeats itself — such as a global pandemic that produces wave after wave of outbreaks.
Another cause of a W-shaped recovery: if governments and central banks raise taxes or interest rates, usually to reduce a growing deficit or control inflation. While these fiscal and monetary policies aim to promote long-run economic stability, they can also cause the economy to falter a second time in the short run.
Ironically, the widespread belief that another recession will occur can also cause a second dip, as consumers become hesitant to spend, investors hesitant to invest, and businesses hesitant to expand.
Double-dip recession vs. other recession shapes
A double-dip recessions resemble a "W" in charting, and it's not the only shape used to describe recessions. Recessions actually come in an entire alphabet soup of shapes. Others include:
- V-shaped recovery, in which the economy bounces back as quickly as it declined, is the best-case scenario because it involves the shortest recession period.
- U-shaped recovery is slightly less ideal, because the economy drags on at the trough longer, which means a slower recovery.
- L-shaped recovery — picture an L tilted 45 degrees counter-clockwise — is the worst-case scenario. This severe recession, or depression, entails a long and deep period of ongoing decline with the economy failing to return back to "normal" for years, if ever.
A double-dip recession is on par with a U-shaped recovery in terms of desirability. Though not the absolute worst, both result in a slower recovery period. Some economists warn that the second dive, along with shattering confidence, can also cause massive inflation and a dramatic decline in the value of a country's currency.
When was the last double-dip recession?
The first (and last — so far) double-dip recession in the US came in the early 1980s.
It began, in part, due to a spike in oil prices after the Iranian Revolution. Beginning in January 1980, the first dip lasted only six months, though. By July 1980, the economy entered a period of growth.
However, it tumbled again in July 1981, due in part to the Federal Reserve raising interest rates to counter inflation. This second, more severe recession lasted 16 months, ending in November 1982.
The Fed knew that by raising interest rates, it could stifle the economic recovery. Unfortunately, prices had been rising for the better part of the last decade, and forcing the economy into another recession seemed the only way to get inflation under control.
It did work, however. And once the price drop happened, the Federal Reserve lowered interest rates again, and the economy achieved an impressive recovery.
The financial takeaway
A double-dip recession threatens to turn what would have been a quick recovery into a painful and potentially lengthy second recession. While not common, the US economy experienced a W-shaped recovery in the early 1980s, and it can happen again.
Some economists have posited it as a possibility for the current economic landscape, particularly if spikes in COVID-19 cases force a second round of business closures and lock-downs.
The good news is that inflation hasn't been anywhere near the double-digits since the early 1980s and remains low despite the Federal Reserve cutting interest rates to zero. So a repeat of exactly what happened in the 1980s is unlikely.
However, that doesn't mean a double-dip recession won't occur for other reasons. Monitoring key economic indicators and paying attention to updates in fiscal and monetary policy can help you guess where the economy might be headed. Keep in mind, though, that economic forecasting is often a guessing game — even for economists themselves.