Itaú BBA - What does a rebound look like after a deep recession?

Macro Vision

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What does a rebound look like after a deep recession?

julio 26, 2016

We find that after a deep recession, emerging and LatAm economies boast higher growth rates than the average.

Please open the attached pdf to read the full report .

We analyzed the behavior of GDP growth in countries that have gone through severe recessions with accumulated GDP contraction of at least 5%.

• We found that after a deep recession, the average annual GDP growth during the recovery’s first three years is 4.7%. 

• On average, recessions last 3.6 years and countries take 4.6 years to return to their pre-recession GDP levels.

• Emerging and Latin American countries historically display higher post-recession growth rates, thus recovering faster.

• Countries with lower real interest rates compared with the pre-recession period show higher growth rates. The same goes for countries that posted real exchange-rate depreciation.

How did the resumption of GDP growth take place in other countries?

Brazil currently faces a deep recession, with GDP contraction of 3.8% last year and a similar decline expected for 2016[1]. Based on World Bank data since 1980, we analyzed the GDP growth of countries[2] that, similar to Brazil, experienced a recession characterized by at least two consecutive years of GDP contraction, adding up to a GDP decline of at least 5%. The sample includes 26 countries and 34 observations.

In the first year after a severe recession, average GDP growth is 4.4%, rising to 5.1% in the second year and reaching 4.7% in the third post-recession year. Thus, the average GDP growth in the first three years is 4.7%.

How much do Emerging and Latin American economies grow after a recession?

Out of the 26 countries that make up the sample, we considered two groups: emerging countries[3], representing 53% of the full sample, and Latin American (LatAm) countries, which account for 56% of the full sample (some countries are included in both categories).

Recovery in emerging countries is faster, with the average growth rate in the three years post-recession reaching 5.9%, 1.2 pp higher than the full sample. LatAm countries’ growth rate followed the emerging markets, at 5.1% on average during the three post-recession years, 0.4 pp above the full sample’s growth rate.

How long do recessions and recoveries last?

On average, recessions leading to an accumulated GDP decline of at least 5% last 3.6 years. To recover lost ground, countries take, on average, 4.6 years. The graph below shows the sample’s years to recovery distribution. Emerging and LatAm countries tend to recover somewhat faster than the full sample.

What is the relationship between key macroeconomic variables and GDP recovery?

We observed the path of the real interest rate, real exchange rate and inflation for the countries under observation in the five years preceding the “peak” year, i.e. the year before the recession, and also in the five years following the beginning of the recession. We analyzed the average interest rate of banks for short- and medium-term loans, and calculated the real interest rate, adjusted using the same year’s inflation rate. Countries with lower average interest rates after the peak year, vis-à-vis the average of the five years preceding the peak, showed smaller contractions and considerably stronger growth than the countries that posted higher interest rates in the same period.

In addition, we analyzed the real exchange rate, in local currency units to the dollar. Countries whose currency depreciated in real terms in the five years following the peak of activity recovered faster than those whose real exchange rate appreciated in the same period.

Finally, the selected sample covers episodes from the 1980s, when some countries experienced hyperinflation. To isolate these episodes, we define hyperinflation inflation rates above 100% for at least two consecutive years in the five years subsequent to the activity peak. We found that the countries that experienced hyperinflation show lower growth rates than those that did not experience hyperinflation.

The Brazilian standard

We analyzed recession periods in Brazil as defined by CODACE (Economic Cycle Dating Committee, FGV). From 1980 to the current recession, Brazil has never experienced two consecutive annual GDP contractions (the only case occurred during the Great Depression of 1929). However, in the recession period between 1981 and 1983, GDP contracted 7.2%. In the three years following the crisis, the economy posted an average growth rate of 7.1%. This recession lasted three years, and GDP took two years to recover its previous level. In the recession between 1990 and 1992 (which began in 3Q89), GDP contracted 2.1%. This crisis went on for two and a half years, and the economy posted an average growth of 4.8% in the three years following the crisis, taking one year to regain pre-recession levels. Although less severe, crises in Brazil since 1980 encompassed more intense recoveries compared to other countries.

The most recent recessions (after 1996) lasted less than two years. Looking at the quarterly frequency since 1996, there were four recession episodes. In these cases, the average period of recovery to pre-recession levels is two quarters. As shown in the chart below, the current recession, which began in 2Q14, has already lasted nine quarters, well above the average lifespan of crises that have occurred in the last twenty years. Considering our scenario, Brazil will probably recover pre-recession GDP levels only in 2019.

Conclusion

It is common to see countries growing at high rates in the years following deep recessions. This growth rate reaches an average of 4.7% in the three years after the recession. Recessions last 3.6 years on average, and countries take an average of 4.6 years to regain their pre-recession levels. Emerging and LatAm countries show higher post-recession growth rates. Countries in which real interest rates fall compared to the pre-recession period boast stronger growth rates; the same goes for countries that posted real exchange-rate depreciation.

In its current cycle, Brazil shares similar aspects to countries that display faster recoveries, such as the exchange-rate depreciation. We expect that, if the process of economic adjustment – particularly on the fiscal front – continues to advance, the country may again see stronger growth rates.


 

Laura Pitta
Lourenço Paiva



[2] The group of selected countries includes developed countries (OECD, high GDP as determined by the World Bank and IMF), emerging countries, Latin American countries, and those with a population greater than one million. We excluded major financial-crisis episodes (Mexico, Thailand and more recently, some countries in the euro zone), and war episodes, situations that do not apply to the Brazilian case. We did not include countries with insufficient pre-/post-recession data.

[3] Usually listed by institutions: IMF, Brics + Next Eleven, FTSE, MSCI, S&P, EM bond index, Dow Jones, Russell, Columbia University EMGP, BBVA.


 

Please open the attached pdf to read the full report .


 



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