A recession is defined as two consecutive quarters of negative GDP growth and indicates the economy is not doing well. Negative GDP growth is when the measurements of economic activity are declining. What does that mean for you and your investments?
Signs of a recession
Recessions are a natural part of the economic cycle. Various factors may cause a recession - increased debt, a housing market crash, rising oil prices, and declining consumer confidence are all potential signs of an impending economic contraction.
The signs of a recession are often evident before the technical definition of "two consecutive quarters of negative GDP growth" is met. By the time GDP measurements are announced, the economy has typically shrunk for at least six months.
The economic cycle
Where does a recession fit in the economic cycle?
There are four stages to the economic cycle:
- Expansion
- Peak
- Contraction
- Trough
The first stage of the economic cycle is expansion. This is when GDP growth is positive, and unemployment is low. The expansion phase is often considered the "boom" phase of the economy. This is when people are confident and spending.
The second stage of the economic cycle is the peak. GDP growth starts to slow, and unemployment starts to rise. The peak phase is often considered the "top" of the economy before it starts to decline.
The third stage of the economic cycle is contraction. This is when GDP growth turns negative, and unemployment rises. The contraction phase is often considered the "bust" phase of the economy. This is when people are nervous and spending declines.
The fourth stage of the economic cycle is trough. This is when GDP growth turns positive again, but unemployment remains high. The trough phase is often considered the "bottom" of the economy before it starts to rebound.
How does a recession affect you?
A recession can severely impact your life, both on a personal and financial level.
On a personal level, a recession can lead to job loss and increased stress and anxiety. If you are already struggling with debt, a recession can make it more challenging to meet your financial obligations.
On a financial level, a recession can lead to a decrease in the value of your investments as inflation and interest rates rise, impacting your ability to save for retirement or other long-term goals.
How to minimize the impact of a recession
You can do some things to minimize a recession's impact on your life.
If you are worried about losing your job, stay up to date on your industry and keep your skills sharp. Identifying additional income streams and networking new opportunities can help alleviate the emotional strain of economic uncertainty.
If you have debt, stay on top of your payments. Consider consolidating your debt to get a lower interest rate if you can.
Finally, the most common suggestion to weather a recession is to have emergency fund savings. Make sure to have an emergency fund in place. While the recommended amount of emergency fund savings differs, virtually everyone agrees emergency fund savings are significant in financial planning. This will help you cover unexpected expenses if you lose your job or have another financial setback.
While recessions can be difficult, some positive aspects also arise.
For example, businesses may be more likely to innovate and automate. This can lead to increased efficiency and productivity in the long run. Recessions can also lead to increased creativity because people are often forced to think outside the box when finding new opportunities.
A recession can also lead to a decrease in the cost of goods and services, which can be helpful for consumers who are trying to save money.
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