6 Min Read | January 12, 2023
6 Financial Moves to Make Before a Recession
Recessions can put your financial security at risk. Knowing what happens in a recession provides a roadmap to help make your financial plan recession-proof.
At-A-Glance
Recessions are part of the economic cycle. There have been eight recessions since 1969.
Recessions pack financial risk. Layoffs rise, and stock values fall.
Taking steps to build recession defenses into your financial plan can help keep you on track to reach your money goals.
A successful financial plan that helps you reach your long-term goals requires an all-weather approach.
The sunny periods are relatively easy to navigate. Economic growth is strong, the value of your investments is rising, and unemployment is low. But sometimes the sun gives way to storm clouds that cause an economic recession, potentially putting your financial security at risk.
The first step in building a recession-proof financial plan is to understand not only what happens in a recession, but that recessions are in fact a normal part of economic cycles. With that knowledge, you can be better prepared to take the steps needed to deal with whatever a recession may throw in your path. Here’s a look at what can happen in a recession and what financial moves to take before the next recession comes to pass.
Recessions 101
Put simply, a recession is when the economy stops growing. A group of economists at the National Bureau of Economic Research (NBER), all experts in studying business cycles, is consulted to provide its recession evaluation.
The NBER economists define a recession as a “a significant decline in economic activity” that typically lasts “more than a few months.”1 While there’s no definitive rule about what constitutes “significant,” a popular rule of thumb is that when the country’s gross domestic product (GDP) – the value of all the goods and services produced – falls significantly for two consecutive quarters, we’re in a recession.
According to NBER, there have been eight recessions since 1969.2 The 18-month downturn from late 2007 until mid-2009, dubbed the Great Recession, is the longest recession in that period.
There can be different triggers for what causes a recession.3 The Great Recession, for example, was caused by the bursting of the housing bubble. Millions of homeowners lost their homes and/or their jobs, and the financial system destabilized. Sometimes a recession happens when consumers and businesses want to buy more goods than the amount available, causing prices to rise – also known as supply-demand imbalance. It’s important to note that inflation, the rate of price increases over a given period, isn’t the same as a recession. But when the rate of inflation spikes, it can set off a chain of events that ultimately results in a recession.
When the rate of inflation runs too “hot,” the Federal Reserve typically gets concerned and raises its Federal Funds Rate – a key short-term interest rate in the U.S. economy. This action makes borrowing more expensive and can, therefore, help slow down the rate of inflation. But if the Fed raises its rate too much/too fast, businesses and consumers can slow down borrowing enough to trigger a recession.
How to Prepare for a Recession
Now that you understand how and why recessions happen, it’s time to build up your recession defenses. We never know exactly when a recession will hit, but remember: It’s a matter of when, not if. Taking the following six steps today can help you build permanent recession defenses (and peace of mind) into your financial plan:
- Build up your savings.
- Spend wisely.
- Pay off high-rate, variable debt.
- Work hard and smart.
- Consider a side gig.
- Focus on long-term investments.
1. Build Up Your Savings
When the economy stalls, layoffs usually rise. In the 1981–1983 recession and the 2007–2009 recession, the unemployment rate rose to 10%.4 That’s Exhibit A for why you want to fortify an emergency savings fund. Aiming for an emergency stash that can cover three months of living costs is a great goal, but you might want to save up even more. In both the Great Recession and the COVID-19 recession, more than 40% of people who lost their jobs remained unemployed for at least six months.5
With luck, your household won’t have to weather a layoff, but keep in mind that, during recessions, employers might cut hours and delay raises and bonuses. Having a sizable emergency cushion can help you deal with any hit to your income.
2. Spend Wisely
It’s always the right time to consider ways to reduce your spending, but it’s especially smart if you’re looking for ways to save more to prep for a future recession. Every dollar you can cut from spending today is a dollar that becomes available for emergency savings, or for paying down debt – more on that later.
Take a spin through your monthly credit card and bank statements. Look for any recurring charges you might be able to trim or eliminate. For example, are there any subscriptions you can cancel? It’s also smart to look for ways to pare your spending on essentials. A rewards credit card that offers cash back or points for gas or grocery purchases can help you save some money on living expenses each month.
3. Pay Off High-Rate Variable Debt
Removing or reducing this monthly cash drain can be a financial lifesaver if your income takes a hit in a recession. And keep in mind that some recessions are caused by interest rates rising too high, too fast. That might mean the APR on your credit card could increase in the months before a recession – this might be more motivation to tackle an unpaid balance that’s carrying a high APR.
If you need to use a card for new purchases and anticipate you might not be able to pay the bill in full each month, consider opening a new card that offers a 0% intro APR. This can be a cost-effective way to pay for necessary big-ticket purchases over time, as long as you pay off the balance in full before the introductory period ends. Or, if you have a card with an unpaid balance and high APR, look into whether you can transfer the balance to a new card that has a 0% intro APR offer – especially if it doesn’t charge a fee for the balance transfer.
4. Work Hard – And Smart
Being a “rock star” at work is sound advice in any economic climate, but it’s especially important in a recession. Since employers are typically motivated to keep the workers they value most, aim to be the last person they consider laying off. And don’t slack off on keeping your skills sparkling and your networking humming. Both can prove valuable in the face of potential layoffs.
5. Consider Adding a Side Gig
Some extra income today can help you build your emergency fund faster, or accelerate your plan to pay down high-interest debt. That side gig might also prove valuable if layoffs occur, or if your hours are reduced during a recession.
6. Focus on Long-Term Investments
Recessions tend to be the stock market’s kryptonite. As companies struggle to sell their goods and services, the value of their stocks usually falls. Bear markets – where the value of an index, such as the S&P 500, falls at least 20% – tend to happen whenever there is a recession.
The key is to remain calm and stay focused on your long-term goals. If you’re investing for retirement, the smart move is to keep your stock investments. Selling stocks when they start losing value can seem tempting, but it raises the risk that you won’t recoup your losses – and profit – when the market inevitably rallies again.
The Takeaway
Understanding the financial risks of what can happen in a recession can guide you to strategies that will help you weather the downturns and keep you on track to reach your long-term money goals.
1 “Business Cycle Dating Procedure: Frequently Asked Questions,” National Bureau of Economic Research
2 “US Business Cycle Expansions and Contractions,” National Bureau of Economic Research
3 “What Causes a Recession?,” Congressional Research Service
4 “Unemployment Rate,” FRED Economic Data
5 “Unemployed 27 weeks or longer as a percent of total unemployed,” U.S. Bureau of Labor Statistics
Carla Fried is a freelance journalist who has spent her entire career specializing in personal finance. Her work has appeared in The New York Times, Money, CNBC.com, and Consumer Reports, among many other media outlets.
All Credit Intelcontent is written by freelance authors and commissioned and paid for by American Express.
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