FAQ: What to Know and Expect about the Coronavirus Recession
When I began to consider writing about economic recession, the pandemic crisis was in its beginning stages and preparing for a recession was a largely theoretical conversation.
Fast forward four months, and we are in a recession that surpasses the Great Recession of 2008. Downturns to both the state and national economies have caused a level of financial hardship most of us have never experienced—unless you were alive for the Great Depression from 1929 to 1941.
Rather than heighten your concern or cause you despair, however, my goal is to answer some frequently asked questions and provide you with a framework to better understand the current economic recession and what we might expect moving forward.
What is a recession?
A recession is defined as two consecutive quarters (six months) of negative economic growth. The most widely cited measurement of economic size and activity is gross domestic product (GDP), which quantifies the value of goods and services our country produces. When GDP is negative, it is a sign that the economy is contracting.
Although this is the textbook definition of a recession, the actual impact is more difficult to define. Not all parts of the economy will experience a downturn in the same way just because GDP has contracted for two or more quarters. Certain parts of the economy may feel the effects of the economic slowdown less than other parts.
Who decides that we’re in a recession? When do they know?
A recession is determined by the National Bureau of Economic Research (NBER). While GDP is the most common metric used to track economic activity, the NBER relies on many others. However, many of the metrics used to pinpoint the start of a recession are assessments of past economic performance. This typically delays any official recognition or announcement of a recession, sometimes by many months. By the time the NBER declares a recession has started, most parts of the economy already feel the impact and most of the country is already well aware of the economic slowdown.
Why do recessions happen periodically? Can’t we just avoid them?
Although the NBER determines the official beginning and end of a recession, it is not a standalone event. As you can see from the graphic below, a recession is one part of a naturally recurring and continuous business cycle. This economic cycle does not have a definitive start and stop—it just keeps going, up and down.
Where are we in the cycle?
We can’t predict the exact timing of when each phase of the cycle will start or how long it will last. (Otherwise, we’d all be rich from the stock market, wouldn’t we?) It can also be difficult to distinguish precisely where on the graph the Vermont and national economies currently are. We’re likely on the recession line headed down as we continue to cope with this crisis and try to keep growing the economy.
But how steep is that line and how far down might the recession go? When will we hit the trough, turn around, and start heading back towards economic growth? Is it possible we have already hit the trough and begun slowly recovering? Or might this be a false rebound that serves as a small blip while the recession continues?
As much as we’d like to gaze into a crystal ball, these questions remain unanswered amidst the economic uncertainty caused by COVID-19.
Do we need to worry about an economic depression?
Generally speaking, a depression is an extreme and prolonged recession. Sometimes to give it a more concrete definition, economists categorize a depression as three years of recession and/or a 10% loss in GDP.
With the recession a few months old and GDP loss estimated at 5% for the first quarter, we’re not at the point where we need to think about this turning into a depression.
What else should I know about this economic cycle?
When the economy recovers past the point of economic equilibrium, it enters a growth phase. If the growth is rapid and steep, it is likely unsustainable. This eventually results in an economic peak or boom, where the economy is growing so fast that it causes inflation—a measure of how much the average price for goods and services increases over time. Inflation erodes spending power. As the economy strengthens, people start spending more and prices begin to rise in response to the increased demand, potentially rising faster than the market can support.
It is usually as we approach a peak in the market that the Federal Reserve Bank (the Fed) intervenes. With the mandate to promote price stability, the Fed can use interest rate policy to raise interest rates in an attempt to control inflation caused by an overheating economy. In reaction to the Fed raising interest rates, economic activity may start to slow and a mild recession may result.
Wait… Why would the Fed do something that may result in a mild recession?
Not all recessions are created equal. In response to an economic boom, the Fed does not try to push the economy toward a recession, but rather to achieve economic equilibrium—low unemployment, low inflation, and a steadily growing GDP. This is sometimes referred to as a soft landing, which can be very difficult to achieve. The best the Fed can usually hope for is a shallow dip in the economy with a quick recovery.
So that’s why they raise interest rates. But getting back to the current recession—what is the Fed doing now to help us recover?
With the U.S. and Vermont economies in a recession and possibly still heading down, the Fed is also using interest rate policy to soften the blow. By lowering interest rates, the Fed hopes to incentivize Americans to spend money and stimulate the economy.
Already some economic metrics—including fewer claims for unemployment insurance—are showing that the descent of the economy has slowed compared to its downward movement earlier in the year. This could be an indication that we’ve hit the trough and are slowly beginning to recover.
When will I see a positive impact on my personal finances?
Unfortunately, not everyone may feel like the recession is slowing. The impact of lower interest rates and incentives for increased economic activity will vary by industry and region, and some will see positive results sooner than others.
Speaking of which, how much longer will this recession last?
It’s difficult for anyone to say for sure how long a recession will last. A number of factors play a role, and as I mentioned earlier, all the metrics are backward-looking. We won’t be able to officially mark the end of the recession until after it’s already over.
That said, we can get a rough sense of the length of a recession based on its severity. The further the recession takes the economy below equilibrium, the longer it takes to emerge from it. Due to the severity of the current recession, in some cases, it may take years for entire industries or regions to get back to pre-recession levels.
So, what should I be doing to make it through the recession?
There are a few steps you can take to stretch your finances through a recession:
- Save. I recognize this might not be possible for some people experiencing financial hardship due to COVID. If you are in a financial position that allows you to, put money aside in case the recession carries on and you aren’t able to rely on continued unemployment benefits, job security, or other existing financial means.
- Pay off your highest-interest debt. If you’re in debt, take care of the payments that cost you the most. This will save you more money down the road, which you can apply to other debts or needs. If you’re struggling to keep up with your mortgage or other payments, contact your lender. Most lenders want to work with their borrowers to help them fulfill their loan obligations. Communication with your lender is the most important first step to working through financial difficulties.
- Refinance your debt. If you can afford it, refinancing can free up your cash flow so you can use that money for other items in your budget. With the Fed lowering interest rates, see if your lender is willing and able to negotiate a lower payment and rate. As I mentioned, many lenders recognize the financial burden the pandemic has caused and will work with you on a payment plan that works for both parties.
- Liquidate your assets. If you need money to pay the bills, one of the more extreme actions you can take is to sell some of your possessions. For example, if you’re struggling to keep up with your mortgage or put food on the table, it may be time to sell the snowmobile you were hoping to use this winter.
- Don’t watch the stock market. The market is extremely volatile and prone to swing up or down at a moment’s notice. Watching these fluctuations can prey on your emotions and cause you to make a rash financial decision. If you are able, stay the course or stick as closely as you can to your long-term financial plan. In the long run, the market will rebound and you’ll be glad you held onto your portfolio. And remember: The stock market is not the economy. Don’t mistake its wild gyrations as a representation of economic activity.
Is there reason to be hopeful?
While it’s not clear how long the recession may last, we don’t have to despair.
It’s important to remember that the economy was performing pretty well before the pandemic crisis struck. Unemployment was at a historic low. Price inflation was under control. GDP was positive, if a little below the ideal growth rate of 2.5 to 3%, and there were no indications of it going negative. The stock markets were consistently hitting new record highs.
All in all, we were in a strong economic position—one that actually helped lessen the severity of the recession, as hard as that is to believe. The recovery won’t happen overnight, and there’s no guarantee the economy will return to its previous heights.
But just as we did during the Great Depression, the Great Recession, and other economic downturns, we know it’s possible for us to slowly climb our way back to that place of economic equilibrium—and perhaps even continue growing from there.
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