Inflation, Interest Rates and Recession: What does it mean for you?

Fifty years ago, in 1972, the price of a gallon of gasoline was approx.

$.36 per gallon.  When I filled up my gas tank the other day, I paid $4.25 per gallon.  That’s an increase in price of almost 1,100%.  Twenty-five years ago in 1997, a dozen eggs would have cost you $1.06.  Today, the average price for those same eggs cost $2.58 in New York.  That’s an increase of 143% over those 25 years.  In March of 1997, the price of a one-day admission ticket at Disneyland was $39.75.  That same one-day admission ticket today will cost you $104.  That’s an increase of 162%.  

If it feels like your dollar doesn’t go quite as far as it used to, you aren’t imagining it. The reason is inflation, which describes the gradual rise in prices and slow decline in purchasing power of your dollars over time.

The impact of inflation may seem small in the short term, but over the course of years and decades, inflation can drastically erode the purchasing power of your savings.

Hi, I’m John Gigliello, Certified Financial Planner with the Albany Financial Group and you’re listening to Invest in Knowledge, a podcast about all things financial.  After a life-altering health issue at 39, my calling in life became clear: To share my knowledge of personal finance with PEOPLE who are looking to make smart and responsible choices with their money.  Only through education, action and accountability can YOU build the confidence and security YOU need to live a SATISFYING life.

Nowadays, everyone if feeling the impact of inflation.  But that’s not all you should be concerned about.  Interest rates play a key role in efforts to fight rising inflation and today, I’m going to educate you about what you need to know about inflation, interest rates and recession.  

Here’s how to understand inflation, and steps you can take to help preserve the value of your money.

Transcript

Inflation, Interest Rates and Recession: What Does it Mean for You?  

Fifty years ago, in 1972, the price of a gallon of gasoline was approx.

$.36 per gallon.  When I filled up my gas tank the other day, I paid $4.25 per gallon.  That’s an increase in price of almost 1,100%.  Twenty-five years ago in 1997, a dozen eggs would have cost you $1.06.  Today, the average price for those same eggs cost $2.58 in New York.  That’s an increase of 143% over those 25 years.  In March of 1997, the price of a one-day admission ticket at Disneyland was $39.75.  That same one-day admission ticket today will cost you $104.  That’s an increase of 162%.  

If it feels like your dollar doesn’t go quite as far as it used to, you aren’t imagining it. The reason is inflation, which describes the gradual rise in prices and slow decline in purchasing power of your dollars over time.

The impact of inflation may seem small in the short term, but over the course of years and decades, inflation can drastically erode the purchasing power of your savings.

Hi, I’m John Gigliello, Certified Financial Planner with the Albany Financial Group and you’re listening to Invest in Knowledge, a podcast about all things financial.  After a life-altering health issue at 39, my calling in life became clear: To share my knowledge of personal finance with PEOPLE who are looking to make smart and responsible choices with their money.  Only through education, action and accountability can YOU build the confidence and security YOU need to live a SATISFYING life.

Nowadays, everyone if feeling the impact of inflation.  But that’s not all you should be concerned about.  Interest rates play a key role in efforts to fight rising inflation and today, I’m going to educate you about what you need to know about inflation, interest rates and recession.  

Here’s how to understand inflation, and steps you can take to help preserve the value of your money.

 How Does Inflation Work?

Inflation occurs when prices rise, decreasing the purchasing power of your dollars. In 1980, for example, a movie ticket cost on average $2.89. By 2019, the average price of a movie ticket had risen to $9.16. If you saved a $10 bill from 1980, it would buy two fewer movie tickets in 2019 than it would have nearly four decades earlier.

Don’t think of inflation in terms of higher prices for just one item or service, however. Inflation refers to the broad increase in prices across a sector or an industry, like the automotive or energy business—and ultimately a country’s entire economy. The chief measures of U.S. inflation are the Consumer Price Index (CPI), the Producer Price Index (PPI) and the Personal Consumption Expenditures Price Index (PCE), all of which use varying measures to track the change in prices consumers pay and producers receive in industries across the whole American economy.

Though it can be frustrating to think about your dollars losing value, most economists consider a small amount of inflation a sign of a healthy economy. A moderate inflation rate encourages you to spend or invest your money today, rather than stuff it under your mattress and watch its value diminish.

Inflation can become a destructive force in an economy, however, when it is allowed to get out of hand and rise dramatically. Unchecked inflation can topple a country’s economy, like in 2018 when Venezuela’s inflation rate hit over 1,000,000% a month, causing the economy to collapse and forcing countless citizens to flee the country.

What Is Deflation?

When prices decline across a sector of the economy or throughout the entire economy, it’s called deflation. While it might seem nice that you can buy more for less tomorrow, economists warn that deflation can be even more dangerous for an economy than unchecked inflation.

When deflation takes hold, consumers delay purchases in the present as they wait for prices to decline even further in the future. If left unchecked, deflation can diminish or freeze economic growth, which in turn decimates wages and paralyses an economy.

Extreme Inflation: Hyperinflation & Stagflation

When inflation isn’t kept in check, it’s commonly known as hyperinflation or stagflation. These terms describe out-of-control inflation that cripples consumers’ purchasing power and economies.

What Is Hyperinflation?

Hyperinflation occurs when inflation rises rapidly and the value of the currency of the country tumbles rapidly. Economists define hyperinflation as taking place when prices rise by at least 50% each month. Though rare, past instances of hyperinflation have taken place during civil unrest, during war time or when regimes have been taken over, rendering currency effectively worthless.

Perhaps the best-known example of hyperinflation took place in Weimar Germany, in the early 1920s. Prices rose by tens of thousands of percent each month, which very badly damaged the German economy.

What Is Stagflation?

Stagflation occurs when inflation remains high, but a country’s economy is not growing and its unemployment is rising. Usually, when unemployment increases, consumer demand decreases as people watch their spending more closely. This decrease in demand lowers prices, helping to recalibrate your purchasing power.

When stagflation happens, however, prices remain high even as consumer spending decreases, making it increasingly expensive to buy the same goods. We don’t have to look abroad to find examples, as the U.S. experienced stagflation in the mid to late 1970s, as high prices from OPEC oil embargoes drove inflation higher even as recession lowered GDP and increased unemployment.

What Causes Inflation?

The gradually rising prices associated with inflation can be caused two main ways: demand-pull inflation and cost-push inflation. Both come back to the fundamental economic principles of supply and demand.

Demand-Pull Inflation

Demand-pull inflation is when demand for goods or services increases but supply remains the same, pulling up prices. Demand-pull inflation can be caused a few ways. In a healthy economy, people and companies increasingly make more money. This growing purchasing power allows consumers to buy more than they could before, increasing competition for existing goods and raising prices while companies attempt to ramp up production. On a smaller scale, demand-pull inflation can be caused by sudden popularity of certain products.

For example, at the start of the coronavirus pandemic, the increase in demand for indoor, socially distant activities combined with the highly anticipated release of Animal Crossing: New Horizons saw the price of the Nintendo Switch gaming system almost double on some secondary markets. Because Nintendo could not increase production, due to factory production halts from Covid-19, Nintendo could not raise its supply to meet rising consumer demand, resulting in increasingly higher prices.

Cost-Push Inflation

Cost-push inflation is when supply of goods or services is limited in some way but demand remains the same, pushing up prices. Usually, some sort of external event, like a natural disaster, hinders companies’ abilities to produce enough of certain goods to keep up with consumer demand. This allows them to raise prices, resulting in inflation.

For example, think about oil prices. You—and pretty much everyone else—need a certain amount of gas to fuel your car. When international treaties or disasters drastically reduce the oil supply, gas prices rise because demand remains relatively stable even as supply shrinks.

How Is Inflation Measured?

The U.S. inflation rate is measured by the Consumer Price Index, the Producer Price Index, and the Personal Consumption Expenditures Price Index. Because no one index captures the full range of price changes in the U.S. economy, economists must consider these multiple indexes to get a comprehensive picture of the rate of inflation.

Consumer Price Index (CPI)

The U.S. Bureau of Labor Statistics calculates the Consumer Price Index (CPI) monthly based on the changes in prices consumers pay for goods and services. The CPI uses a “basket of goods” approach, meaning it tracks changes in the costs of eight major categories people spend money on: food and beverages, housing, apparel, transportation, education and communication, recreation, medical care, and other goods and services.

Many consider the CPI the benchmark for measuring inflation in the United States. The CPI is especially important because it is used to calculate cost of living increases for Social Security payments and for many companies’ annual raises. It is also used to adjust the rates on some inflation-protected securities, like Treasury Inflation-Protected Securities (TIPS).

Producer Price Index (PPI)

Also published by the Bureau of Labor Statistics, the Producer Price Index (PPI) tracks the changes in prices that companies receive for the goods and services they sell each month. Costs can rise when producers face an increase in tariffs, higher oil and gas prices to transport their items, or other issues, such as the impact of a long-lasting pandemic or environmental changes, like a rise in hurricanes, wildfires, or flooding.

The PPI plays an important role in business contracts. Businesses that enter into long-term contracts with suppliers frequently use the PPI to automatically adjust the rate they pay for raw goods and services over time. Otherwise, suppliers would lock themselves into years-long contracts at rates that might lose them purchasing power over the long term.

Personal Consumption Expenditures Price Index (PCE)

Like the CPI, the Personal Consumption Expenditures Price Index (PCE) tracks how much consumers pay for goods and services in the economy. PCE is published by the Bureau of Economic Analysis, which considers a broader range of consumer expenditures, like healthcare spending. It also updates the basket of goods it uses for calculations based on what consumers are actually spending money on each month, rather than limiting data to a fixed set of goods.

PCE is an especially important because it’s the Federal Reserve’s preferred measure of inflation when making monetary decisions.

Inflation and the Federal Reserve

This level of inflation gives the FOMC scope to jump-start the economy during downturns by decreasing interest rates, which makes borrowing cheaper and helps boost consumption. Lower interest rates reduce costs for businesses and consumers to borrow money, stimulating the economy. Lower interest rates also mean individuals earn less on their savings, encouraging them to spend. But all this extra demand can push up inflation.

What Investments Beat Inflation?

Even a moderate rate of inflation means that money held as cash or in low-APY bank accounts will lose purchasing power over time. You can beat inflation and boost your purchasing power by investing your money in certain assets.

Beat Inflation with Stocks

Investing in the stock market is one way to potentially beat inflation. While individual stock prices may fall or single companies may go out of business, and bear markets may even depress indices for certain periods, broader stock market indexes have historically risen over the long run, beating inflation.

From 1920 to 2020, the S&P 500, which tracks the performance of 500 of the largest companies in the U.S., generated an average annual return of just over 10%, with dividends reinvested. This is a long-term average—in some years, the S&P 500 had lower or even negative returns.

No investment offers a guarantee, but a well-diversified investment in a broad market index fund can potentially grow wealth over decades and potentially beat inflation. Even adjusting for inflation, investments in an S&P 500 index fund have averaged over 6% returns from June 1930 to June 2020.

Beat Inflation with Bonds

Bonds on average offer lower returns than stocks, but they can also regularly beat inflation. Risk averse investors or those approaching or in retirement may seek out the more consistent returns of investments in bonds and bond funds to beat inflation.

From June 2005 to June 2020, the Bloomberg Barclays U.S. Aggregate Bond Index, a benchmark index tracking thousands of U.S. bonds, saw annual returns of 4.47%. Even accounting for inflation, those with money in bonds would have seen modest increases in the purchasing power of their money. Keep in mind, though, that bond yields are tied to the overall economy and current bond yields may be drastically less than historical bond yields.

Treasury Inflation-Protected Security (TIPS)

Treasury Inflation-Protected Securities (TIPS) are a special class of U.S. treasury bonds specifically designed to protect investors from inflation. TIPS automatically adjust the value of your investment based on changes to CPI, meaning the value of your bond rises with inflation. TIPS pay interest over the five-, 10-, or 30-year life of the bond.

Can You Beat Inflation with Gold?

Many investors consider gold as the ultimate inflation hedge, although the debate over this proposition is far from settled. From April 1968 to June 2020, for instance, gold increased in value on average 7.6% a year. When adjusted for inflation, returns average 3.6%. Yet in 2013 and 2015, gold’s value decreased 28% and 12%, respectively, suggesting gold is far from the stable safehaven some envision it to be.

That’s because the price of gold can wildly fluctuate over time and is impacted by movements of global currencies, monetary policy choices made by the Fed and other central banks, not to mention erratic supply and demand.

Investing in gold also comes with its own unique set of challenges. If you buy gold, you have to find a secure location to store it, which comes with costs of its own. If you sell gold after holding it for a year or more, it’s subject to a higher long-term capital gains tax rates than stocks and bonds.

INTEREST RATES

The Federal Reserve is the central bank of the U.S., and the Fed—like central banks around the world—is tasked with maintaining a stable rate of inflation. The Federal Open Markets Committee (FOMC) has determined that an inflation rate around 2% is optimal employment and price stability.

The Federal Reserve’s mission is to keep the U.S. economy humming—not too hot, not too cold, but just right. When the economy booms and “runs hot,” distortions like inflation and asset bubbles can get out of hand, threatening economic stability. That’s when the Fed steps in and raises interest rates, which helps cool down the economy and keep growth on track.

Interest Rates and the Federal Reserve

Job number one for the Fed is managing monetary policy for the United States, which means controlling the supply of money in the country’s economy. While the Fed has multiple tools at its disposal for the task, its ability to influence interest rates is its most prominent and effective monetary policy tool.

When people talk about the Fed raising interest rates, they’re referring to the federal funds rate, also called the federal funds target rate. At its regular meetings, the Federal Open Market Committee (FOMC) sets a target range for the federal funds rate, which acts as a reference for the interest rates big commercial banks charge each other for the overnight loans.

Banks borrow overnight loans to satisfy liquidity requirements set by regulators, including the Fed. The average of the rates banks negotiate for overnight loans is called the effective federal funds rate. This in turn impacts other market rates, like the prime rate and SOFR.

Thanks to this somewhat indirect arrangement, the federal funds rate is the most important benchmark for interest rates in the U.S. economy—and it influences interest rates throughout the global economy as a whole.

What Happens When the Fed Raises Rates?

When the Fed raises the federal funds target rate, the goal is to increase the cost of credit throughout the economy. Higher interest rates make loans more expensive for both businesses and consumers, and everyone ends up spending more on interest payments.

Those who can’t or don’t want to afford the higher payments postpone projects that involve financing. It simultaneously encourages people to save money to earn higher interest payments. This reduces the supply of money in circulation, which tends to lower inflation and moderate economic activity—a.k.a. cool off the economy.

Let’s look at how this applies to a 1% increase in the fed funds rate and how that might impact the lifetime cost of a home mortgage loan.

Take a family shopping around for a $300,000 30-year, fixed-rate mortgage. If banks were offering them an interest rate of 3.5%, the total lifetime cost of the mortgage would be approximately $485,000, with nearly $185,000 of that accounting for interest charges. Monthly payments would clock in around $1,340.

Let’s say the Fed had raised interest rates by 1% before the family got a loan, and the interest rate offered by banks for a $300,000 home mortgage loan rose to 4.5%. Over the 30-year life of the loan, the family would pay a total of more than $547,000, with interest charges accounting for $247,000 of that amount. Their monthly mortgage payment would be approximately $1,520.

In response to this increase, the family in this example might delay purchasing a home, or opt for one that requires a smaller mortgage, to minimize the size of their monthly payment. 

This (very) simplified example shows how the Fed reduces the amount of money in the economy when it raises rates. Besides mortgages, rising interest rates impact the stock and bond markets, credit cards, personal loans, student loans, auto loans and business loans.

Impact on Stocks

Higher market interest rates can have a negative impact on the stock market. When Fed rate hikes make borrowing money more expensive, the cost of doing business rises for public (and private) companies. Over time, higher costs and less business could mean lower revenues and earnings for public firms, potentially impacting their growth rate and their stock values.

“If the cost of borrowing money from a bank increase, the opportunity to expand investment in capital goods by a corporation stall,” says Dan Chan, a Silicon Valley investor and a former pre-IPO employee of PayPal. “The interest rate may be so high that many companies will not be able to afford to grow.”

More immediate is the impact Fed rate increases have on market psychology, or how investors feel about market conditions. When the FOMC announces a rate hike, traders might quickly sell off stocks and move into more defensive investments, without waiting for the long, complicated process of higher interest rates to work their way through the entire economy.

Impact on Bonds

Bonds are particularly sensitive to interest rate changes. When the Fed increases rates, the market prices of existing bonds immediately decline. That’s because new bonds will soon be coming onto the market offering investors higher interest rate payments. To reflect the higher overall rates, existing bonds will decline in price to make their comparatively lower interest rate payments more appealing to investors.

“When prices in an economy rise, the central bank typically raises its target rate to cool down an overheating economy,” notes Chan. “Inflation also erodes the actual value of a bond’s face value, which is a particular concern for longer maturity debts.”

Impact on Savings Accounts and Bank Deposits

While higher interest rates might be bad for borrowers, they’re great for anyone with a savings account. That’s because the fed funds rate is also a benchmark for deposit account annual percentage yields (APYs). When the FOMC raises rates, banks react by increasing the amount you earn from deposit accounts.

That means the APYs you earn on savings accounts, checking accounts, certificates of deposit (CDs) and money market accounts rises higher as well. Typically, online savings accounts react more rapidly to Fed rate changes because there is much more competition among online banks for deposits. APYs offered by conventional brick-and-mortar banks respond much more slowly to rate increases and generally don’t get very high even in the best of times.

Impact on Consumer Credit

Consumer credit, like personal loans, lines of credit and credit card, respond more gradually to Fed rate increases.

Variable rate loans are particularly sensitive to Fed rate changes as the interest rates they charge are based on benchmarks that reference the fed funds rate. New fixed-rate loans can see higher interest rates, but existing ones are immune to changes to the fed funds rate.

For example, between 2004 and 2006, the Federal Reserve raised interest rates 17 times from 1.0% to 5.25% to curb inflation and cool off an overheated economy. Commercial banks raised their rates to 8.25% increasing the cost of borrowing on credit cards and lines of credit.

Watch Out for Fed Rate Hikes

In March 2022, the Federal Reserve started hiking the federal funds rate. Not all Fed rate hikes are going to impact you directly, and not all corners of your financial world are going to be affected by rate changes. But keeping tabs on changes to monetary policy is an important part of keeping your financial life in order.

For all investors, especially anyone who’s getting close to retirement, rising rate environments need to be handled with care. As in any other market conditions, striking the right asset allocation among stocks, bonds and cash is the best way to mitigate the impact of rising rates.

RECESSION

A recession is a significant decline in economic activity that lasts for months or even years. Experts declare a recession when a nation’s economy experiences negative gross domestic product (GDP), rising levels of unemployment, falling retail sales, and contracting measures of income and manufacturing for an extended period of time. Recessions are considered an unavoidable part of the business cycle—or the regular cadence of expansion and contraction that occurs in a nation’s economy.

Official Recession Definition

During a recession, the economy struggles, people lose work, companies make fewer sales and the country’s overall economic output declines. The point where the economy officially falls into a recession depends on a variety of factors.

 In 1974, economist Julius Shiskin came up with a few rules of thumb to define a recession: The most popular was two consecutive quarters of declining GDP. A healthy economy expands over time, so two quarters in a row of contracting output suggests there are serious underlying problems, according to Shiskin. This definition of a recession became a common standard over the years.

 The National Bureau of Economic Research (NBER) is generally recognized as the authority that defines the starting and ending dates of U.S. recessions. NBER has its own definition of what constitutes a recession, namely “a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales.”

 The NBER’s definition is more flexible than Shiskin’s rule for determining what is a recession. For example, the coronavirus could potentially create a W-shaped recession, where the economy falls one quarter, starts to grow, then drops again in the future. This would not be a recession by Shiskin’s rules but could be under the NBER’s definition.

What Causes Recessions?

 There is more than one way for a recession to get started, from a sudden economic shock to fallout from uncontrolled inflation. These phenomena are some of the main drivers of a recession:

 A sudden economic shock: An economic shock is a surprise problem that creates serious financial damage. In the 1970s, OPEC cut off the supply of oil to the U.S. without warning, causing a recession, not to mention endless lines at gas stations. The coronavirus outbreak, which shut down economies worldwide, is a more recent example of a sudden economic shock.

Excessive debt: When individuals or businesses take on too much debt, the cost of servicing the debt can grow to the point where they can’t pay their bills. Growing debt defaults and bankruptcies then capsize the economy. The housing bubble in the mid-aughts that led to the Great Recession is a prime example of excessive debt causing a recession.

Asset bubbles: When investing decisions are driven by emotion, bad economic outcomes aren’t far behind. Investors can become too optimistic during a strong economy. Former Fed Chair Alan Greenspan famously referred to this tendency as “irrational exuberance,” in describing the outsized gains in the stock market in the late 1990s. Irrational exuberance inflates stock market or real estate bubbles—and when the bubbles pop, panic selling can crash the market, causing a recession.

Too much inflation: Inflation is the steady, upward trend in prices over time. Inflation isn’t a bad thing per se, but excessive inflation is a dangerous phenomenon. Central banks control inflation by raising interest rates, and higher interest rates depress economic activity. Out-of-control inflation was an ongoing problem in the U.S. in the 1970s. To break the cycle, the Federal Reserve rapidly raised interest rates, which caused a recession.

Too much deflation: While runaway inflation can create a recession, deflation can be even worse. Deflation is when prices decline over time, which causes wages to contract, which further depresses prices. When a deflationary feedback loop gets out of hand, people and business stop spending, which undermines the economy. Central banks and economists have few tools to fix the underlying problems that cause deflation. Japan’s struggles with deflation throughout most of the 1990s caused a severe recession.

Technological change: new inventions increase productivity and help the economy over the long term, but there can be short-term periods of adjustment to technological breakthroughs. In the 19th century, there were waves of labor-saving technological improvements. The Industrial Revolution made entire professions obsolete, sparking recessions and hard times. Today, some economists worry that AI and robots could cause recessions by eliminating whole categories of jobs.

Recessions and the Business Cycle

The business cycle describes the way an economy alternates between periods of expansion and recessions. As an economic expansion begins, the economy sees healthy, sustainable growth. Over time, lenders make it easier and less expensive to borrow money, encouraging consumers and businesses to load up on debt. Irrational exuberance starts to overtake asset prices.

As the economic expansion ages, asset values rise more rapidly and debt loads become larger. At a certain point in the cycle, one of the phenomena from the list above derails the economic expansion. The shock bursts asset bubbles, crashes the stock market, and makes those large debt loads too expensive to maintain. As a result, growth contracts and the economy enters recession.

What’s the Difference Between a Recession and a Depression

Recessions and depressions have similar causes, but the overall impact of a depression is much, much worse. There are greater job losses, higher unemployment and steeper declines in GDP. Most of all, a depression lasts longer—years, not months—and it takes more time for the economy to recover.

Economists do not have a set definition or fixed measurements to show what counts as a depression. Suffice to say, all the impacts of a depression are deeper and last longer. In the past century, the U.S. has faced just one depression: The Great Depression.

The Great Depression

The Great Depression started in 1929 and lasted through 1933, although the economy didn’t really recover until World War II, nearly a decade later. During the Great Depression, unemployment rose to 25% and the GDP fell by 30%. It was the most unprecedented economic collapse in modern U.S. history.

By way of comparison, the Great Recession was the worst recession since the Great Depression. During the Great Recession, unemployment peaked around 10% and the recession officially lasted from December 2007 to June 2009, about a year and a half.

Some economists fear that the coronavirus recession could morph into a depression, depending how long it lasts. Unemployment hit 14.7% in May 2020, which is the worst level seen since the depths of the Great Recession.

How Long Do Recessions Last?

The NBER tracks the average length of U.S. recessions. According to NBER data, from 1945 to 2009, the average recession lasted 11 months. This is an improvement over earlier eras: From 1854 to 1919, the average recession lasted 21.6 months. Over the past 30 years, the U.S. has gone through four recessions:

The Covid-19 Recession. The most recent recession began in February 2020 and lasted only two months, making it the shortest U.S. recession in history.

The Great Recession (December 2007 to June 2009). As mentioned, the Great Recession was caused in part by a bubble in the real estate market. The Great Recession wasn’t as severe as the Great Depression, its long duration and severe effects earned it a similar moniker. Lasting 18 months, the Great Recession was almost double the length of recent U.S. recessions.

The Dot Com Recession (March 2001 to November 2001). At the turn of the millennium, the U.S. was facing several major economic problems, including fallout from the tech bubble crash and accounting scandals at companies like Enron, capped off by the 9/11 terrorist attacks. Together these troubles drove a brief recession, from which the economy quickly bounced back.
The Gulf War Recession (July 1990 to March 1991). At the start of the 1990s, the U.S. went through a short, eight-month recession, partly caused by spiking oil prices during the First Gulf War.

Can You Predict a Recession?

Given that economic forecasting is uncertain, predicting future recessions is far from easy. For example, COVID-19 appeared seemingly out of nowhere in early 2020, and within a few months the U.S. economy had been all but closed down and millions of workers had lost their jobs. The NBER has officially declared a U.S. recession due to coronavirus, noting that the U.S. economy fell into contraction starting in February 2020.

That being said, there are indicators of looming trouble. The following warning signs can give you more time to figure out how to prepare for a recession before it happens:

    An inverted yield curve: The yield curve is a graph that plots the market value—or the yield—of a range of U.S. government bonds, from notes with a term of four months to 30-year bonds. When the economy is functioning normally, yields should be higher on longer-term bonds. But when long-term yields are lower than short-term yields, it shows that investors are worried about a recession. This phenomenon is known as a yield curve inversion, and it has predicted past recessions.

    Declines in consumer confidence: Consumer spending is the main driver of the U.S. economy. If surveys show a sustained drop in consumer confidence, it could be a sign of impending trouble for the economy. When consumer confidence declines, that means people are telling survey takers they don’t feel confident spending money; if they follow through on their fears, lower spending slows down the economy.

    A drop in the Leading Economic Index (LEI): Published monthly by the Conference Board, the LEI strives to predict future economic trends. It looks at factors like applications for unemployment insurance, new orders for manufacturing and stock market performance. If the LEI declines, trouble may be brewing in the economy.

    Sudden stock market declines: A large, sudden decline in stock markets could be a sign of a recession coming on, since investors sell off parts and sometimes all of their holdings in anticipation of an economic slowdown.

 Rising unemployment: It goes without saying that if people are losing their jobs, it’s a bad sign for the economy. Just a few months of steep job losses is a big warning of an imminent recession, even if the NBER hasn’t officially declared a recession yet.

How Does a Recession Affect Me?

You may lose your job during a recession, as unemployment levels rise. Not only are you more likely to lose your current job, it becomes much harder to find a job replacement since more people are out of work. People who keep their jobs may see cuts to pay and benefits, and struggle to negotiate future pay raises.

Investments in stocks, bonds, real estate and other assets can lose money in a recession, reducing your savings and upsetting your plans for retirement. Even worse, if you can’t pay your bills due to job loss, you may face the prospect of losing your home and other property.

Business owners make fewer sales during a recession, and may even be forced into bankruptcy. The government tries to support businesses during these tough times, like with the PPP during the coronavirus crisis, but it’s hard to keep everyone afloat during a severe downturn.

With more people unable to pay their bills during a recession, lenders tighten standards for mortgages, car loans and other types of financing. You need a better credit score or a larger down payment to qualify for a loan that would be the case during more normal economic times.

Even if you plan ahead to prepare for a recession, it can be a frightening experience. If there’s any silver lining, it’s that recessions do not last forever. Even the Great Depression eventually ended, and when it did, it was followed by the arguably the strongest period of economic growth in U.S. history.

That brings us to the end of this podcast.  I hope I’ve been able to educate you on the topics of inflation, interest rates and recession. If you’re looking to make smart and responsible choices with your money, then stay tuned for our next episode of Invest in Knowledge coming in early June.  Have a wonderful day!

Many of the facts cited in this episode about inflation, interest rates and recession are based on information in recent articles by Forbes. 

John Gigliello is a registered representative with and securities are offered through LPL Financial, Member FINRA/SIPC. Investment advice is offered through Private Advisor Group, a registered investment advisor. Private Advisor Group and Albany Financial Group are separate entities from LPL Financial.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly. The economic forecasts set forth in this material may not develop as predicted and there can be no guarantee that strategies promoted will be successful. This is a hypothetical example and is not representative of any specific situation. Your results will vary. The hypothetical rates of return used do not reflect the deduction of fees and charges inherent to investing.

Individual tax and legal matters should be discussed with your tax or legal professional.