How to Protect Your Finances From a Global Recession
A global recession is scary because of the uncertainty it brings; the uncertainty of finding a job, paying a mortgage, or feeding the kids. These worries take a toll on our wellbeing, too. Studies have found that during times of economic adversity, people face greater risk of experiencing mental health issues, such as depression.
While you might feel helpless in the face of a recession, one of the best things you can do is equip yourself with knowledge so that you know what to expect and how to best look out for your finances when a global recession strikes. Knowledge is power, after all.
To help put your mind at ease, we’ve put together the answers to some of your top questions about global recessions:
What is a global recession?
A global recession is a period of economic decline around the world. Not all economic downturns are recessions, however. Most economists require at least two consecutive quarters (six months) of decline in a country’s GDP (the value of goods and services produced by an economy) for a recession to be called.
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Analysts also consider factors like unemployment rate, income, and sales to get a better picture of a given country’s financial health. Typically, all of these other indicators are negatively impacted during a true recession. In a global recession, many countries face GDP decline, but some countries are more affected than others.
Why do recessions happen?
There are many potential causes for a global recession, which can make them very difficult to predict. According to the International Monetary Fund, the following three reasons are common culprits:
- Oil — Often, increased oil or energy costs are to blame. As oil prices increase, the cost of producing other goods and shipping them around the country increases, too. As the prices of other goods and services increase, demand falls and people begin spending less money, resulting in an economic slowdown.
- Credit bubbles — Credit bubbles like those that caused the Great Recession (more on this below), can also lead individuals and companies to take on too much debt. Eventually, people have a difficult time keeping up with their debt payments and the credit bubble bursts, triggering a recession.
- Decreased demand for trade — Finally, since the global economy is so interconnected, what happens in one country greatly impacts others. A sudden decrease in trade demand (due to a trade war, geopolitical crisis or natural disaster) can wreak havoc on the economy of a country that depends heavily on the export market.
What are the consequences of a global recession?
During a recession, it isn’t hard to notice how normal people’s lives are impacted. You might even be familiar with the strain on your own budget.
Overall, downturns in the economy mean that employees might have their hours cut or even lose their jobs if employers can’t afford to pay them anymore.
The reduction in wages makes employees’ budgets tighter, which means they have less money to spend eating out, buying new electronics, or traveling to Disney World. As a result, there is a ripple effect in which all of these other industries take an economic hit, too. Eventually, people begin to have trouble making payments on their bills and the government takes in fewer tax dollars as people’s income decreases.
How long do global recessions last and how do they end?
Typically, recessions last about a year. Since World War II there have been a total of four global recessions (in 1975, 1982, 1991, and 2009), with the most recent Great Recession being the most severe and longest-lasting recession at 18 months according to the US National Bureau of Economic Research.
The Great Recession finally ended when the Obama administration passed a government bailout called the American Recovery and Reinvestment Act. The Act included measures to offer families economic relief, give tax breaks to small businesses, expand unemployment benefits, and inject money into education, science and technology.
Similarly, economic conditions during the Great Depression began to improve as President Roosevelt implemented The New Deal, which introduced a series of social programs such as Social Security and public works projects.
Importantly, both of these financial crises led to new government policies put in place to prevent future recessions.
What’s the difference between a global recession and a depression?
There isn’t necessarily a widely accepted definition for a depression, but you can think of a depression as a particularly bad recession.
Most analysts define a depression as a decline in GDP of more than 10%. During the Great Depression of the 1930s, for example, the US economy decreased by an estimated 30%.
According to the IMF, the most recent depression took place in Finland during the 1990s after the fall of the Soviet Union, one of its primary trading partners.
What can I do to protect my finances during a global recession?
Recessions are scary, but there are a number of things you can do so that your finances are in good shape before the economy takes a turn.
- Strengthen your emergency fund: It’s a good idea to have at least 3–6 months worth of expenses saved up to cover your bases if you suddenly find yourself without a steady income. You should save enough in your emergency fund to cover the basics you need to pay your bills — rent, food, healthcare, childcare, utilities, etc.
- Pick up a side hustle: Does your paycheck not leave you with a lot of cash leftover to put aside for a rainy day? Consider picking up a side hustle to help you reach your savings goals faster.
- Pay off your debts: If you have any high-interest debt, such as credit card debt, it can be a good idea to pay them off while economic tides are high. Don’t have the spare cash on hand? Pick up a side hustle to pay them off. You’ll thank yourself later!
- Create a market crash investment fund: One of the biggest rules of investing is “buy low, sell high”. Never are stock prices lower than during a recession. While it isn’t advisable to throw all your disposable income into the market during a recession, the price may come down on certain reliable investments like core sector stocks (food, electricity, healthcare, etc.), real estate, and dividend stocks with a low debt-to-equity ratio.
- Lower your investment risk: Make sure your investment portfolio is diversified so that you aren’t too heavily invested in any particular industry or investment type. Your portfolio should include an assortment of different types of assets (stocks, bonds, CDs, real estate, etc.)
Will there be another global recession?
Unfortunately, economic downturns are part of the natural ebb and flow of the economy. However, you shouldn’t necessarily not pull all of your money out of your investments out of fear of a recession.
The IMF states that between 1960–2007, there were a total of 122 recessions that took place within the economies of 21 higher income countries. While that might sound like a lot, if you look at the big picture, these economies were in a recession only about 10% of the time.
So, will you experience a recession in your lifetime? Probably. Will you experience a global recession? Yes, you will likely experience one of those, too.
But, if you take the right steps and follow a careful personal finance plan, you and your loved ones will be financially prepared when the next recession strikes.