We heard a lot of talk about bad economic news last week.
“Recession” seemed like the word of the week last week. And it can be a word that causes people a lot of anxiety. This morning, I want to make sure our listeners understand what is going on in the economy, and how to be prepared in the event of an economic slowdown.
What is a recession and when will the next one happen?
Put simply, a recession is a significant decline in economic activity. Recessions are typically defined as two consecutive quarters of economic contractions. This means that the value of all the economic activity in our country, measured by Gross Domestic Product, goes down. Recessions are officially declared in the U.S. by a committee of experts at the National Bureau of Economic Research (NBER), who determine the peak and subsequent trough of the business cycle which demonstrates the recession.
As far as when the next one will hit, we just don’t know. In fact, we are really bad at predicting recessions. According to an economist from the International Monetary Fund, “very, very few recessions have been predicted nine months or a year in advance.” What we do know is we will have one at some point, because recessions are simply part of the business cycle. Trees don’t grow to the sky, and economic expansions do not last forever. But there is nothing that requires periods of economic growth only last for a certain period of time. Our current economic expansion is the longest one on record. And Australia has currently gone 27 years without a recession!
Why do recessions happen? And what is causing all of this talk about one now?
A number of factors contribute to recessions. The housing bubble combined with unscrupulous practices in the financial sector played large roles in bringing about the Great Recession of 2008, but each one has different causes.
Right now, economic indicators that many experts follow are increasingly mixed. On the plus side, we continue to see companies hiring, low unemployment, steady wage growth, and high consumer confidence. Consumer spending continues to power the economy. However, there are a lot of factors that are not looking so great. The government just released revised jobs figures showing weaker hiring than they initially thought.
Businesses have dialed back spending in recent months. We are seeing a global economic slowdown. Germany, Europe’s largest economy, shrank in the second quarter, as did the United Kingdom’s economy. China’s GDP growth has also slowed down. The continuing trade war is increasingly taking a toll on the economy. All of this contributes to skepticism about the future.
What are some ways we can put ourselves in a better position ahead of the next economic downturn?
My advice falls into two buckets: financial and professional. When it comes to your finances, there are a few steps you can take that will make it easier to ride out a downturn. First, pay down debt. First you want to focus on high cost debt, specifically credit card debt. Not only will paying down this debt save you money over the long run, but it will allow you to turn to your credit cards if you are in a financial pinch. After credit card debt, turn to mortgages and auto loans.
At the same time, you want to start to build an emergency fund if you have not done so already. Having savings to fall back on in the event of a job loss or wage reductions can make it possible for to stay afloat financially while you find your way forward. Start with one month’s savings, then shoot for three then six months of expenses. Since 1945, U.S. recessions have lasted an average of 11 months. It’s a tall task to save up enough to cover nearly a year of expenses, so focus on saving a bit at a time.
Which leads me to my third tip: live within your means. Now is a good time to review your income and expenditures. Understanding your discretionary spending – spending on items that are not mandatory, like eating out or that additional cable channel package – will help you to be able to reduce your spending and save money. And if you have not done so already, it is important to create a budget and stick to it.
What about the professional bucket?
During recessions, we often see employers lay off people. For those affected, it can be financially devastating, so now is the time to prepare. Ideally, you want to keep your job. One way to do that is to hone your abilities. Focus on making sure that you have training and skills your field requires and your employer needs. Take some professional development classes. It will benefit you in the long run. On top of this, you want to buckle down at work and put in your all. Make yourself indispensable!
That said, we want to be ready for the worst case scenario: losing your job. In this case you want to have your resume updated so you can immediately get back into the workforce.
Mellody Hobson is President of Ariel Investments, a Chicago-based money management firm that serves individual investors and retirement plans through its no-load mutual funds and separate accounts. Additionally, she is a regular financial contributor and analyst for CBS News.