No two recession economies look the same. Some, like the early 2000s recession, were brought on by the dot-com bubble burst and the September 11, 2001 attacks. The 2008 financial crisis was due to lending imbalances, among other causes. If we were to experience a recession now, the reasons behind it would be numerous and hard to pin down.
As financial discussions turn toward a potential post-pandemic recession, there’s a knowledge gap between ordinary people and economic experts. Recessions all look at least a little bit different, even if their impact is largely the same as far as your wallet’s concerned. Knowing what could be the cause behind a market downturn, or what sectors may create a tipping point, can help you better understand how a recession could affect you.
What is a recession?
Although the term recession is fairly common nowadays, the precise definition of a recession isn’t necessarily as clear to many. The definition can be somewhat nebulous—a prolonged period of economic sluggishness or a decline in gross domestic product (GDP) alongside sustained unemployment.
That’s not easy for economists to pin down, let alone your average person. As far as most consumers are concerned, a recession is a period of economic contraction: there may be fewer jobs, a dollar may not buy as much, and the ability or appetite to spend on luxury items is usually lower. High interest rates are also common, meaning you may pay more on a credit card APY and higher interest when taking out a loan. Each of these are symptoms of a recession and can impact your finances differently.
How do we know when we’re in a recession?
News around a recession can be hard to understand. We’re often in a recession, or experiencing a recession-like economy, before economists officially declare one. In fact, economists may even argue among themselves about whether or not we’re in recession at all. This makes it tough to understand headlines about the state of the economy, and makes planning for one that much more difficult.
The strictest definition of a recession is two consecutive quarters of declining GDP. The National Bureau of Economic Research (NBER), which makes the official call on a recession in the United States, defines a recession as “a significant decline in economic activity that is spread across the economy and that lasts more than a few months.” Economists factor more than GDP trends into their analysis of a potential recession, usually accounting for unique aspects of the health of economic sectors and consumer sentiment.
How long could a recession last?
Calling the beginning and end of a recession is an imprecise science. As with any financial phenomenon, it’s nearly impossible to time. Is a recession predicted for 2023? It’s hard to tell. That said, there are patterns as well as signals that can help us understand how long a recession may last.
The NBER found that the average length of a recession, since 1854, is about 17 months. Recessions post World War II tend to be closer to ten months, however, although the Great Recession lasted 18 months. The COVID-19 recession in 2020 only lasted two months, on the other hand.
It’s hard to tell how long a recession could last if we were to experience one. The labor market, while contracting for companies in some sectors, remains relatively robust. Inflation, on the other hand, has dampened the purchasing power of a dollar. Even if people are working and jobs are available, their wages don’t go as far as they did in the past. Until inflation is curbed, be it through rising interest rates or otherwise, it’s tough to tell how long a recession could stick around.
Economists have established that there are typically five elements of a recession. What are the five stages of a recession? They’re usually as follows:
- Recession: The first stage in which economic activity decreases
- Trough: The lowest economic point during a recession, followed by an uptick in activity
- Recovery: The period of economic rebalancing where growth begins to recover
- Expansion: When the economy begins to expand again, usually by way of hiring and increased GDP
- Peak: The top of economic expansion following a recession.
- Economic Slowdown: The end of the strong economic growth period, often signaling the possibility of another recession
- Stock Market Decline: The result of sluggish economic growth or the start of another recession
How could a recession impact me (and how can I prepare for one)?
Recessions have some overarching effects, typically in terms of stock market shocks and higher borrowing interest rates. There are other more individualized effects as well, such as industry-specific hiring slowdowns or lowered home prices in certain places.
Everyone feels some financial ramifications from a recession. The extent to which a recession impacts you financially differs between households, however. Say for instance that you live in an area hit by high housing prices: your wages aren’t going to go as far for affording a home as they would in a cooler market. If the collapse of an industry sector occurs, and drags other elements of the working economy down with it, a recession could do much more damage. Your savings may not help pay for as much as it used to, and your expenses may creep higher.
Making sense of a recession
The prospect of a recession is anxiety inducing, even if the cyclical nature of the markets make recessions unavoidable. How can a business prepare for a recession in 2023? How can a household do the same? The answer isn’t always clear. Any period of economic downturn puts tremendous pressure on your typical family, and financial instability is a perpetual worry for many. Knowing what defines a recession, how you might be impacted, and what to expect in terms of duration (and severity) can best help to provide context if not comfort. It’s always best to save as much as possible, avoid taking out credit if you can, and to take a closer look at expenses when talks of a recession are on the rise.