Worried About the Future? How to Prepare for a Recession
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In looking for a silver lining among the red flags that the U.S. may be headed toward another recession as consumer prices are rising, inflation is growing, the GDP has fallen, and Russia is at war, among other factors, you don’t have to look back too far.
The two-month recession in early 2020 was the shortest on U.S. record, which beats by far the 15 months that the average recession has lasted since 1900, according to CNBC.
Whenever the next recession comes, and it inevitably will, it will hopefully be as short as the 2020 downturn. Or the slowing economic activity could be just that — a slowdown that doesn’t result in a recession. After all, the unemployment rate is low, wages are rising, and consumers are still spending.
In this article
What is a recession?
Recessions are regular parts of the economy, though they’re not always predictable. It can be difficult to know ahead of time when they’ll happen or how bad they’ll be.
A recession is generally defined as the economy declining for two or more consecutive quarters, as measured by the country’s gross domestic product growth rate, or GDP. In the first quarter of 2022, the GDP decreased at an annual rate of 1.5%. Before that it was growing for five consecutive quarters.
Recessions are common, and the tough times can last just a few months, a year, or longer. Through 2019, the U.S. economy set a record by starting and ending a decade without a recession for the first time.
Still, recessions are common. Before 2020 the U.S. had 13 recessions since the Great Depression, which ended in 1933.
The Great Recession is one of the latest, lasting from December 2007 to June 2009. The GDP fell 4.3%, and the unemployment rate reached 10%. The federal government responded with a $700 billion bailout of the financial industry, along with helping insurance and automobile companies, and $800 billion in a government stimulus package was given out.
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8 ways to prepare for a recession
Preparing for a recession is relatively simple but not always easy. It comes down to good money management practices that should always be followed, whether the country is in an economic recession or not. Some steps can be hard to remember to follow when the economy is doing well.
While you can’t control what happens to the economy as a whole, you can take some steps to prepare for tough times ahead and avoid the economic downturn as much as possible.
We’ll go over some ways to prepare for a recession. These include saving and earning extra money, dealing with a job loss, investing in a bear market, setting a budget, and cutting debt such as credit card debt.
We’ll also go over the costs of any preparations, though most don’t have any fees.
1. Start budgeting
If you haven’t already done it, starting a family budget is a good idea when you or economists see the first signs of an economic recession.
It can be as easy as creating a spreadsheet of your expenses and income on the computer. Personal finance apps such as YNAB are also easy to use, and some are free. Many also help manage your investments and retirement accounts, and you can pay to talk to a financial advisor to help you reach your financial goals.
2. Start an emergency fund
An emergency fund is a good way to recession-proof your family. An emergency savings account should have three to six months of living expenses so you can get through a job loss and an economic downturn. Nine to 12 months’ worth of living expenses would be ideal.
Ideally, an emergency fund should be started when you’re doing well financially and can afford a regular, monthly contribution.
Interest rates aren’t great on savings accounts, but they are rising. As of May 16, 2022, the national interest rate on a savings account is 0.07%, according to the Federal Deposit Insurance Corp. Online banks usually offer the best rates, sometimes as high as 1% as of early June 2022.
The account should be liquid, so you can access it anytime without paying an interest penalty.
3. Pay down credit card debt
The average credit card balance is $5,221, according to Experian. Since interest rates usually rise during a recession, it’s a good idea to pay off or at least pay down credit card debt before a recession arrives. If you lose your job and have tight money, debt payments can easily become unmanageable.
According to Forbes, the average credit card interest rate on accounts with balances is 16.45%. Rates vary based on credit score, with some credit cards charging annual percentage rates of 25% and higher to people with the worst credit scores.
One way to pay down credit card debt is to switch credit cards and consolidate credit card debt with a balance transfer to a card with an introductory 0% APR. You’ll likely need good or excellent credit to qualify for a 0% balance transfer, but if you do, you’ll save by not paying interest for as long as two years.
If you don’t qualify for a balance transfer credit card, pay down your credit card debt as much as possible. Avoid credit card debt if possible. It’s always a good time to improve your credit score, so try to pay your bills on time, use less than the limit on your cards, and don’t open new lines of credit.
When your credit score starts improving, you may be able to get your credit card provider to lower your interest rate, which will make payments more affordable.
4. Invest in the stock market
Investing in the stock market can seem like an odd way to prepare for a recession, but if you can afford to invest, a recession can be a good time to be a buyer.
A bear market is when the stock market drops by 20% or more in value from its recent highs. U.S. stocks are close to a bear market.
In the last 69 years, on average, stocks did worse in the year before a recession began than during the recession itself, according to Forbes. After recessions, stocks tend to go up more than down, and investors are less likely to lose money the longer they stay invested. As of May 2022, the S&P 500 was up more than 59% since the 2020 recession ended May 2020.
Related: How to Make Money During A Recession
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5. Prepare for a job loss
Job losses are part of recessions. During the Great Recession, the national unemployment rate started at 5% in December 2007 and had been at or below that rate for the previous 30 months. Unemployment peaked at 10% in October 2009, a few months after that recession ended.
Since then, the national unemployment rate peaked at 14.7% in April 2020. As of May 2022, it was 3.6% as economic growth returned for a while.
That’s good news for now, but it’s a good idea always to be prepared for a job loss. Funding an emergency fund is a good start, but other preparations can also be made. You should keep your resume updated, always have the best contact information for your references, and start contacting professionals in your field for job leads long before a recession hits.
6. Start a side hustle
Earning some extra money through a side hustle or two. It can be especially handy in preparation for a recession.
Driving for Lyft or Uber, delivering groceries or meals on Instacar or DoorDash, putting together IKEA chairs on TaskRabbit, dog sitting on Rover, or selling your crafts on Etsy or eBay are just some of the many side hustles available.
Not all of them pay much, however. The average side hustle collects $1,122 a month, but the median income is just $200 monthly, according to Side Hustle Nation. That means many people seeking extra money are at the low end of that earning spectrum.
Related: How to Recession-Proof Your Savings
7. Check your student loans
Federal student loan payments are automatically suspended until Sept. 1, 2022. No interest is incurred during this suspension for eligible federal direct loans, Parent PLUS and Graduate PLUS loans, and federally held FFEL or Federal Family Education Loans and Perkins loans. Private student loans aren’t affected by this policy.
The cash you save from suspending student loan payments can be spent on living expenses and other urgent needs. However, if you can afford to continue making payments, you may want to do so. All payments will go toward the principal while new interest is suspended.
If you lose your job when the payment waiver period ends, you can do a few things to lower the expenses of a student loan. One is to change to an income-driven repayment plan that takes 10 to 20% of your discretionary income as a payment cap and then forgives your loan after 20 or 25 years of payments.
You may also be able to defer student loan payments for up to 36 months, though interest will continue to accrue. You can also request a pause on payments through forbearance when interest will also continue accruing. Private lenders may offer forbearance for one year. You may also be able to refinance your loans at lower interest rates.
The best solution for federal student loan borrowers may be to keep an eye out for S$10,000 in student debt cancellation that may come with an income restriction.
8. Consider your real estate options
Selling or buying real estate can be difficult in a recession. Some people may be unable to afford their home after a job loss and may want to sell their homes, while home buyers can have difficulty finding a loan they can afford with interest rates rising.
Homeowners may be better off refinancing their mortgage loans into lower rates or want to get a home equity line of credit as an emergency fund if needed during a recession.
Home buyers should focus on homes they can truly afford and ensure they have enough money after closing to pay property taxes, insurance, upkeep, and have up to six months’ worth of house payments in a savings account.
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Costs
Some budgeting apps are free, though they often come with advertisements you have to wade through. Others charge subscription fees, such as $15 per month at YNAB (You Need a Budget) or $48 annually at Quicken. Services that help manage investments may charge a fee that’s a percentage of your assets, such as the 0.89% fee Personal Capital charges to talk to one of its financial advisors.
To avoid costs on an emergency savings account, look for a bank that doesn’t charge a monthly fee when you meet a minimum balance amount. This should be easy to find, especially if you already have a checking account with a bank that can also offer you a savings account.
If you’re planning to switch credit cards to reduce credit card debt, look for one that charges either 0% APR on balance transfers or at least a lower interest rate than you’re currently paying. Most credit cards charge a balance transfer fee of 3% to 5%, so check how much that computes and if it’s worth making the transfer.
Buying stocks is free at many online brokerages. Review a brokerage’s list of fees, including monthly and management fees.
If you’re starting a side hustle, be aware that many apps take a cut of what you earn. TaskRabbit charges a $25 registration fee for new workers, but workers then keep 100% of what they earn. Rover charges 20% per booking. Uber takes 30% of each fare, and Lyft takes around 20%.
Pros & Cons
Pros
- Even if a recession doesn’t come soon, making many preparations for a recession can be a start toward good money habits.
- An emergency fund should cover your family’s expenses for six months, so include the monthly income from both spouses if both work.
- A recession can be a good opportunity to buy stocks at a discount.
Cons
- Contributing to an emergency savings account or paying down high-interest debt can take a long time to fund. Remember that slow and steady payments will eventually get you to your financial goals.
- Losing a job during a recession can be difficult, and finding another job can take much longer if the unemployment rate is high.
- Side hustles may not bring as much income as you might think they would.
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The bottom line
Short-term financial goals are often easier to reach than long-term ones, but that shouldn’t prevent you from preparing for a recession that’s likely to happen a few times in your life.
Putting three to six months’ worth of expenses aside in an emergency savings account by making monthly contributions can be a good first step to weathering an economic recession when it happens.
Starting other good financial habits can also help. These include creating a household budget, paying off high-interest debt, and starting a side hustle or passive income by regularly investing in stocks.
With that preparation, you may have enough extra money to last a few recessions.
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Writer
Aaron Crowe is a freelance journalist who specializes in personal finance writing and editing. He has worked at newspapers, where he won a Pulitzer Prize, and has written for numerous online publications. These include AOL, US News & World Report, WiseBread, Bankrate, AARP, and many websites focusing on housing, credit and insurance. He lives in California with his wife and daughter.
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