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How a Recession Can Impact Personal Finances

Recessions can have a negative impact on personal finances for a lot of people. While those with no debt, plenty of home equity, and decades of working still ahead of them may not even feel a recession if they are in the right industry, the rest of us potentially face the following impacts to our personal finances:


1. Job loss: Recessions vary in strength and will impact different industries to varying degrees. For example, an automobile salesman could easily become redundant in an environment where cars are slow to sell.


2. Income stream: Our automobile salesperson offers a prime example of how a recession can reduce income. But commission salespeople are not the only ones to be impacted. An HVAC installer, for example, may find that while the 40-hour workweek is consistent, last year’s overtime pay is long gone. That can negatively impact family spending plans for vacations, college, or simple daily living.


3. Home valuations: These can go down in a recession, as during the Great Recession of 2008-09, or when the economy slows significantly but avoids recession, as in 2019. The decline in what is often a family’s main asset reduces their wealth for both the present and, potentially, the future; any decline in value must be recouped before more home equity can be added (much like the stock market). The situation is even more critical for people who are looking to sell their homes because of a change in employment or owing to retirement. The downturn in the economy can take away equity that they had been counting on for the years to come.


4. Stock market equity: It is not always the case, but a recession or even a noticeable slowdown in the economy can cause the stock market to dip, or at least slow very noticeably in its rate of rise. Those instances remove wealth today, or at least slow the creation of wealth. Slowing of the creation of wealth through equity rise has a long-term impact on retirement. For example, a 10% average annual increase in the market will produce a much larger future value than a 6% average annual growth rate. Recessions and periods of slower economic growth can reduce the rate of return you will get on your investments. In this example, when you start with a $10,000 initial investment and add $4,000 to your IRA or 401K each year for 10 years, a 10% average annual return will yield a final value that is $19,000 higher than with a 6% average annual return. Recessions can hurt your finances for the long term.

All of this is to say that while recessions may negatively impact personal finances, there are means to adequately prepare and avoid most of the pain. At ITR Economics, we are always saying that there is opportunity in any phase of the business cycle.

For instance, regarding job loss, the first potential impact I mentioned, if you knew ahead of time that retail sales of cars in your region were expected to be negatively impacted during the next recession, you could seek a sales position in a different industry before employers in your industry began labor reduction efforts.

Likewise, in the second example, knowing that overtime or commission sales will most likely be nonexistent during the coming recession, you could prepare by saving more of your OT or commission income, balancing the current influx with the impending reduction.

I’m sure you can see where this is going. So long as you accurately know what is to come, you can prepare both professionally and personally to not only ride out the storm, but perhaps excel during it! That is exactly what ITR Economics is here to help you do.

 

Alan Beaulieu
President