One of the most dreaded words in economics and politics is “recession.” Having an economy in a recession typically means that the country, as a whole, will be facing many challenges. Central banks usually spur into action with rate adjustments to stimulate the economy, and policymakers often begin working to improve economic conditions. However, the current conditions that could tip the economy into a recession are slightly different from those in the past. If you’re wondering, “how does a recession affect me,” here’s what you need to know about a shrinking economy. We’ll also explore five tips to help you prepare for when and if a recession happens!
How Does a Recession Affect Me?
Before discussing the potential impacts of a recession, it’s first worth defining what a recession is. There’s no universal definition; however, the IMF has historically stated that it is “a period of decline in economic activity.” Short declines are not recessions. For example, if the economy produces less tomorrow than it did today, that’s not a recession.
Many analysts have conventionally used two quarters as the length of decline necessary to call something a recession. In other words, two quarters of sustained economic decline (as measured by GDP output) is a recession.
Under that definition, the US was technically in a recession as it had two consecutive quarters of shrinking GDP. The UK and Canada are both seeing slowing GDP growth but have not yet seen the contractions necessary for the current economic climate to be a recession.
However, many pundits and analysts believe that the economy is facing headwinds that will likely tip the broader economies in all three countries into a recessionary state.
Therefore, it’s worth asking the question, “how does a recession affect me?”
A Recession Will Affect Everyone Differently
The broader circumstances surrounding a recession (if we get one) make it particularly challenging to predict how it will affect people. With inflation at all-time highs and uncertainty, still, in Ukraine, this recession (if it hits) will very likely look quite a bit different than the one in 2008.
Finding work may be more challenging if you graduate from school and begin your career now. Companies are slowing hiring in pretty much all industries right now. That will make it difficult for those entering the workforce to do so.
If you are in your early to mid-career, layoffs, lost bonuses, and lack of cost-of-living increases become a concern during a recession. And, with companies slowing down hiring (or, in some cases, freezing it altogether), finding a replacement job becomes much more difficult. High inflation and rising interest rates will also make homeownership much more complicated and could force people to rent for much longer than they would otherwise want.
For those later in their career, the risk is both layoffs and the stock market losing its value. If you have shares in SIPPs, 401(k)s, or RRSPs (depending on your country of residence), a recession could mean those equities could lose significant value. During the 2008 recession, for example, the S&P 500 declined 48%.
Lastly, the cost-of-living increases represent perhaps the biggest challenge for retired people – especially those on a fixed income. Retirees may have to make difficult housing, food, and health choices as the cost of living rises globally.
How Can I Protect Myself in a Recession?
While a recession will likely affect everyone differently, there are some ways to protect yourself now in the event a recession does arrive in the next year or so. It’s certainly not too late to start planning!
1. Build a Reserve Fund
The most significant risk for most people in a recession is a layoff. If that happens, having a “rainy day” fund becomes essential to pay for expenses while searching for a new job.
The good news is that it is never too late to start building this fund! Most experts recommend having 3-6 months in emergency savings as cash (or cash equivalent). However, the median UK household saves £2,160 per year while having a median disposable household income of £31,385. At those rates, the average person likely takes about seven years to save six months’ worth of disposable income.
Don’t be discouraged, though! While saving 3-6 months is recommended, every little bit helps, and building the habit of saving is incredibly important. Even if you don’t have anything saved, start with a goal of saving £500 or $500. Those few hundreds could potentially make some payments for you, provide food money, etc., in the event of an unexpected layoff!
Start building a reserve fund. While six months of savings would be nice to have, even if you won’t have that right away, there’s still tremendous value in starting to save!
2. Ensure Your Portfolio is Recession-Resistant
The next most significant threat, arguably, is the potential for a stock market decline. As most people have their retirement savings in stocks, bonds, etc., these declines can profoundly affect an individual’s or family’s overall net worth.
Usually, but not always, stocks that focus on consumer necessities (things like laundry detergent, gas, etc.) fare reasonably well in a recession. While people can forgo some luxuries, they can’t give up many of the basics.
Real estate also tends to be a robust investment during a recession. Although many people recall the collapse of real estate prices during the 2008 recession, that was unusual. In the United States, home prices have remained neutral or increased during recessions before 2008. Other countries have tended to have a similar trajectory. People still need a place to live, and companies still need places to work, even in a recession!
If inflation continues to rise, bond prices will likely continue to fall. And sectors that are more “experimental” (like crypto) may continue to face some headwinds. As such, both types of investments may be worth avoiding until the economy stabilises.
Look at your portfolio and ensure that your combination of stocks, ETFs, funds, etc., will perform well during recessionary times.
3. Develop a Second Income Stream
Having a second income stream can sometimes be quite vital during a recession. That way, if you receive a layoff from your day job, you at least have a way to continue earning revenue while looking for employment.
Everyone can start a side hustle. Platforms like Fiverr and Upwork make it easy to turn your talents into cash. Many people have significant success stories doing voiceovers, writing, SEO work, blogging, drawing, graphics design, and so much more. You can always be a freelance developer if you know how to code!
Even if your second income is not significant, it could help significantly down the road – especially if inflation continues to rise and the job market continues to trend downward!
4. Pay Attention to Your Credit Score
One of the hallmarks of a recession is often the dreaded “credit crunch.” Many pundits believe a credit crunch is coming, especially for European debt. Banks, credit card companies, and other financial institutions tend to develop stricter guidelines for lending money. As such, people with a low credit score tend to find it challenging to access additional funds during a recession.
If you have any issues with your credit score, now is the time to start cleaning them up. Keeping debts low, not opening up new credit accounts, and ensuring you pay your balances in their entirety (or as close to full as you can get) each month will help keep your credit score up. That way, if you need funds (or even a mortgage), banks won’t turn you away – even in a recession!
5. Mentally Prepare Yourself for the Long Term
Recessions come and go. If we do get one, it probably won’t be the last one you experience in your life. Economies will naturally expand and contract over time.
As such, prepare yourself mentally to focus on your long-term goals and objectives. Although stocks may go down or inflation may rise, these issues are often transient, as history has shown every time in the past that the economy returns to a bull market eventually.
Don’t become sidetracked and derail your investment goals and objectives. Instead, focus on yourself and your financial future!
How Does a Recession Affect Me? It Can Vary!
Ultimately, a recession will affect everyone differently. Some people may experience layoffs, while others may notice their retirement accounts shrinking. Still, some people might not notice or have any adverse impacts – their companies might do perfectly fine in a recession!
However, you cannot predict your outcome, so when thinking about “how does a recession affects me,” put the above tips into practice. That way, you can protect yourself if your income or assets take a hit in the future (which can even happen during economic boom times).
There’s an adage to prepare for the worst and hope for the best. With economic uncertainty in the future, now is the time to improve your financial position just in case we have a recession in the future. Of course, if we don’t have one, you can use that strengthened position to build your savings further!