What Happens After A Recession?
Years earlier, most analysts expected that in 2020, the global recession will once again hit the economy. With each country taking aggressive containment steps to flatten the coronavirus curve, speculations about the impending global crash in 2020 are now right at our doorstep. Some would even argue that we are already in the recession. The International Monetary Fund (IMF) projected that the coronavirus pandemic would drive the global economy into one of the worst recessions in history. And if the coronavirus remains or a second wave hits, the recovery will be weaker and slower than expected. Some economists even expect the economic downturn to last till next year.
This economic downturn, however, is different from the rest of US history. Instead of an unhealthy financial system, the COVID-19 pandemic triggers this economic downturn through social distancing and travel restrictions to contain the health crisis. The social distancing policy has caused a drop in demand for products as consumers seek to avoid contagion by staying at home and having their food and other things delivered. As consumer spending drops and sales begin to decrease, businesses stop expanding as well. Cinemas, theme parks and other outdoor entertainment will have to close to prevent the spread of the virus. Cancelled flights and hotel rooms would affect the workers in the service and travel industry which will eventually lead to a layoff. These economic conditions are likely to deteriorate until it is deemed safe enough for business and factories to resume operations.
This leaves us with the real question on our current economic situation. How deep is the downturn going to be? And how long will it last?
Understanding a recession
The International Monetary Fund (IMF) defines a recession as a prolonged period of economic decline. Usually, the economic recession is accompanied by a decline of more than 20% in the stock market, a rise in unemployment, a decrease in industrial output and a decline in the housing sector. If all this continues for two successive years, we are technically in a recession. The recession is typically less serious than depression but the impact of it can still be devastating for many people.
Recession vs Depression
Depression is more severe than a recession. A recession represents a general decline in the economy for at least two quarters or six months. The economic downturn will begin to recover as the GDP climbs back to its pre-recession level. Depression, on the opposite, is a prolonged phase of a global economic downturn that causes the economic indicators to fall further. You can think of economic depression as two or more linked recessions with no economic rebound between them. Typically, depression is deeper and lasts longer than a recession. The Great Depression of 1929, for example, lasted 43 months, while the Great Recession lasted 18 months. Over the last 166 years, there have been 33 recessions and just one depression.
It’s a recession when your neighbour loses his job; it’s a depression when you lose yours.
Harry S Truman
The quote above shows how devastating the impact of depression can be compared to a recession. For instance, the consequences of the Great Depression continued for decades after it ended. The stock market took almost 25 years to recover even though the depression lasted for 43 months. Some people viewed the poor global economic outlook as a contributor to the start of World War II in 1939. Although it marked the end of the Great Depression, it triggered another period of hardship for the people.
What causes a recession?
Recessions arise from several causes. The Great Recession in 2008 was largely due to the initial subprime mortgage crisis that led to the collapse of the housing sector in the United State and Western Europe. However, unlike the recession of 2008, the current economic downturn is caused entirely from an external factor such as the COVID-19 virus. The longer we take to complete the vaccine, the more uncertain we are if the coronavirus pandemic will cause a global recession that is worse than before. Some of the common factors which trigger a recession include:
- High-interest rate
- High inflation rate
- Shrink of real wages
- A decrease in consumer confidence
The impact of a recession
Rise of unemployment rates
A recession causes unemployment rates to rise as most industries are trying to cut back to survive, especially service sectors which are heavily affected by the virus outbreak. Millions of affected workers have filed for unemployment benefits to survive the outbreak. As a result, economists estimate that 20 million people in the US will be out of work by July.
With about 6.6 million unemployment insurance claims, the overall number of Americans being laid off takes up to 16.8 million in just one month. While the lay-off survivors felt relieved, they were also afraid of their job security. The unpredictable future has made them more cautious with their spending.
Fall of GDP
Gross Domestic Product or GDP is a country-wide economic output index that determines economic growth. But with fewer people contributing to the economy, demand for goods and services declines. Businesses are more likely to reduce prices to move goods off the shelves. With less money and less growth in the economy, GDP falls.
Economists predict that GDP growth will plunge as businesses stop operating and the world population is placed under lockdown within the first and second quarters of the year. The April World Economic Outlook has projected that the global growth of 2020 would fall to -3%. With a reduction of 6.3 percentage points from January 2020, it indicates a significant change in a short time. The 2007 Great Recession saw the country’s real GDP declined by only 4.3 percentage points. This makes the coronavirus recession a far worse recession than the Great Depression.
Stocks and other properties lose value
People begin to reduce their spending and are more likely to save what they have during the recession. Those who have lost their source of income and no holding power will start selling their investments to sustain their livelihood. The growing number of individuals who sell their stocks triggers a dramatic decline in the stock market. This affects the real estate industry as well. People would put off purchasing and selling off properties during the economic downturn. The selling prices will fall due to the decline in property demand which is not matched with higher housing supply.
Government debt grows
As the Government spends billions on stimulus packages, tax cuts, and health-care to counter the crisis, it eventually leads to a deficit in the federal budget and debt.
To minimise debt, the Government would have to slash its expenditures and increase taxes. Additionally, the Government also needs to cut interest rates to boost economic development. Low-interest rates encourage individuals and corporations to borrow money. The borrowers, in turn, will spend that money on goods and services, creating jobs and tax revenues.
How long would a recession last?
The 2008 recession lasted 18 months, while the other 10 recessions after World War II lasted six to 16 months or an average of 10.4 months. The duration the US takes to build the economy is what separates the Great Recession from other recessions. In this current situation, the pace and length of recovery will depend on how fast the pandemic stops.
It is impossible to define a recession until a minimum of six months has passed. Meanwhile, a depression can rarely be identified until after it has occurred. The World Bank expects a general decline of economic activity to recover partially towards the end of 2020. But to succeed, every country will need to strengthen the containment measures and their health systems.
Be prepared for a recession
Work on your budget
Jobs are scarce and money is tight during the economic recession. Seek to stay within your means, and monitor your money for the bills you need. If you have not started a budget, create one that considers your current situation. Do ensure you have a decent monthly surplus rather than living from month to month, paycheck to paycheck.
Slash that unnecessary spending
Spending on stuff you can live without such as ordering take out, unnecessary online shopping and monthly subscriptions should be reduced. It’s better to cut back now or it might be too late when the situation escalates. Consider redirecting the unnecessary expenses into your savings account. During these stay-at-home days, it may be hard to reduce your entertainment spending. But with other free or much cheaper alternatives like YouTube, which is completely free, you can still have a good time!
Boost your emergency fund ahead
This pandemic will severely affect your ability to make ends meet. Hence, build up cash reserves worth a minimum of six months of your living expenses if you still receive your monthly paycheck. Secure any form of cash assistance of COVID-19 in your emergency fund, if any.
Diversify your income source
Some jobs can put you at risk during a recession. Even now, some people are being told (or forced) to work from home while some are being laid off. Regardless of whether or not you’re working from home, consider diversifying your source of income by adding a side-hustle for some extra cash to survive the world crisis.
Pay off debt
Once you have your emergency fund in place, your goal should be to pay off high-interest debt such as credit card debt. Do not postpone your loan repayment especially during the recession. Paying off your debt would help you slowly reduce your monthly expenses. This will provide you with a more robust chance to survive the global recession in case you lose your income source.
Do not stop investing
The stock market will begin to plummet as the recession begins. Yet it shouldn’t be the reason for you to stop investing or, worse, to sell off your investments if it’s for the long-term. Know that the best way to make money with stocks is to buy it and keep it going through good and hard times. If your savings are sufficient to sustain your livelihood during the crisis, consider buying stocks while the value is low. This ensures you can earn capital gains once the recession is over and the stock market starts to rise.
Should we be worried about the recession?
Recessions are, of course, part of the economic cycle. We need them to ensure long-term sound economic growth. In your lifetime, you’ll likely go through several recessions. Although it is a part of the economic cycle, every country fears a recession due to its devastating effects.
Knowing what to expect and the way to survive during a crisis is important rather than merely surviving. But what will happen after the recession?
The economists expect three potential ways for a recession to move:
The swift ‘V’
The V-shaped recovery represents a ‘V’ shape in a chart to discuss recessions and economic recovery. In a V-shaped recession, the economy has undergone a sharp decline but quickly grows back to its previous peak. This type of recession is said to be the best-case scenario. Recovery is generally caused by an increase in economic activity due to the rise in demand and consumer spending. The US recession of 1953 could be a good example of a V-shaped recovery.
The possibility that a V-shaped economic rebound will occur, however, is getting less by the day. A rapid rebound will occur when the constraints on social distancing are lifted and the virus is contained. The V-shaped recovery is estimated to have a probably 30% chance of happening. But it may deteriorate if the world continues to be placed under lockdown.
The gradual ‘U’
A U-shaped recovery is a type of economic recession and recovery which when charted, resembles a ‘U’ shape. U-shaped recovery happens when the economy goes through a gradual recession and recovers slowly to its previous peak. This form of recovery is predicted to has a 55% chance of happening.
The U.S. and the global economy are said to be more likely to adopt the U-shape recovery pattern rather than the V-shape characteristics after the global financial crisis. Most economists, including Federal Reserve Chairman, Ben Bernanke, predict a slow and gradual recovery. The reluctance of customers and companies once the economy is reopened leads to a gradual recovery. Besides, the big economic drivers, the US and China, have had very strong growth within the previous decades. The stock indices reached new heights and the US unemployment rate in February was 3.5%, a point which has not been seen for over 50 years. All this adds to the increased chance of a U-shaped recovery.
The prolonged ‘L’
L-shaped recovery represents the ‘L’ shape pattern of how the economy might recover on the chart. This type of recovery is known to be the worst-case scenario as it reflects rapid dropping recessions but failing to recover. According to JP Morgan’s research, there is a 15% chance of an L-shape recovery happening. The sustained weakness and damage resulting from the shutdown of COVID-19 may contribute to the rate of the probability. More business bankruptcies, inadequate government support and a high unemployment rate could be the reasons as well.
The most probable path to the L-shaped scenario is when the virus never gets “under control”. Another wave of outbreaks occurs each time social distancing is removed. What was common before may no longer is. Most businesses would find it difficult to manage operations and people would be less likely to cram into crowded places even after the virus is contained. As long as human interaction remains risky, companies cannot responsibly return to normal. This scenario is similar to that of an economic depression.
The bottom line is…
The pandemic is primarily a public health emergency. COVID-19 is negatively affecting almost every aspect of our lives. Many people will be jobless as businesses scale back or cease operations. Analysts have already lowered their global growth projections to between 1% and 2% this year.
Nobody at the moment knows how long it will last and for how long they need to prepare. At the end of the day, it depends on how the virus can be brought under control or we’ll eventually have to settle for the fact that, this is the new normal.
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