By now, you’ve probably heard that Canada is in a recession caused by the COVID-19 pandemic. But what actually happens during a recession and how does it impact you? Here’s a breakdown of what it all means:
What is a recession?
Economists use various criteria to figure out whether an economy is in recession. The most common is if economic activity, as measured by gross domestic product (GDP)*, shrinks for six months or two consecutive three-month periods.
By this definition, it appears that Canada entered a recession in the first quarter of 2020.
*GDP represents the total dollar value of all finished goods and services produced in an economy over a certain time period (usually a year).
During a recession, there’s a rise in unemployment. Fewer jobs mean that people are earning less and spending less money. It also means that businesses are growing at a slower pace or may even be shrinking.
What causes a recession?
There are many factors that can contribute to a decline in GDP, including the following:
- higher interest rates, which make it more expensive for businesses to borrow money to fund growth;
- lower consumer confidence, caused by negative events (such as COVID-19), which leads consumers to delay spending;
- crises in the financial system, such as a drop in the stock market;
- international trade wars;
- government spending cuts; and
- sudden disruptions in the supply or demand of essential commodities, such as oil, which leads to a drastic increase in their price.
This year’s recession was largely the result of the COVID-19.pandemic.
In an effort to stop the spread of the virus, governments around the world closed non-essential businesses and urged people to stay at home. This led to job layoffs, limited travel and disrupted supply chains. As a result, the general speed of everyday business slowed down.
What’s the difference between a recession and a depression?
A depression is more severe than a recession and lasts much longer. It results in lower consumer spending and, compared to a recession, often includes:
- a higher level of unemployment,
- a much lower rate of industrial production and
- a higher rate of business failures (bankruptcies).
Recessions on average last for about 11 months, while a depression can last for several years. For example, the Great Depression of 1929 lasted for three and a half years. But the Great Recession of 2008 lasted about 18 months.
Currently, the global economy appears to be in a recession, not a depression.
How long will it take for the economy to recover from this recession?
There’s no sure way to predict how long the 2020 recession will last. But here are a few factors that may help the economic recovery:
- businesses are beginning to reopen;
- financial markets are beginning to bounce back; and
- governments are providing sizeable fiscal stimuli.*
(*Fiscal stimuli refers to actions taken by the government to boost increased economic activity. These actions may include increased government spending or tax cuts.)
How does a recession affect you?
A recession can affect people of all income groups. You may have already experienced a job loss related to COVID-19. Or, you may now be earning less money due to lockdown restrictions.
As a result, you may have difficulty paying your bills or saving money. This may cause you to go into debt to make necessary payments. With financial markets suffering losses, you may have also experienced a temporary decline in your investment portfolio.
During these difficult times, it’s important to remember that recessions are typically short-term and that the economy eventually recovers.
How can you keep your finances on track during a recession?
While you can’t avoid the impact of a recession, you can help protect your finances during one. Here are some tips to help you weather a recession:
1. Use an emergency fund rather than credit
You can’t always predict a financial emergency. But you can prepare for one by having an emergency fund to help you through difficult times.
Do you currently have an emergency fund that can cover some of your living expenses? You can use it to help you through a temporary loss of income. It’s a much better alternative to high-interest credit cards, which will only sink you deeper into debt. When you borrow from your own emergency fund, you have only yourself to pay back.
If you don’t already have an emergency fund, it’s never too late to start building one. You can build your emergency fund in small steps. First, take a realistic look at your current expenses and figure out how much you can afford to set aside now. Maybe you can only put away $5 or $10 a week right now. Not to worry: that’s a good start. Simply a choose a set amount per week or month that you’re comfortable setting aside. Then have that amount automatically transferred from your chequing account into a savings plan. Remember to review the transfer arrangement regularly and increase the amount whenever you can.
2. Create a budget or review your current budget
Creating a budget is a great way to figure out where your money’s going right now and to make sure it’s going to the right places. If you already have a budget, now’s a good time to review it.
Start by making a list of your monthly expenses. Then, ask yourself if there’s anything you don’t need. For example, when reviewing your budget, you may find that you have some unwanted subscriptions you can cancel. You can then redirect some or all of that money to your emergency fund.
Next, ask yourself if there are any living expenses you don’t have to pay right away. Many banks, creditors and mortgage providers now offer options to help clients who’ve been financially impacted by COVID-19. Give them a call to see if they offer any support programs or flexible payment options that can help you through this recession.
Need help with your budget? Talk to an advisor for help on how to build a solid budget and stick to it.
3. Stay invested – even when the stock market goes down
When financial markets decline drastically, you may feel anxious or panicked. You may also feel tempted to sell your investments or make significant changes to your portfolio. But it’s usually best not to act on such emotional impulses.
If you already have a diversified portfolio,* it’s probably best to stay invested. There’s a good reason for staying the course. Historically, financial markets tend to recover from large declines and then go on to produce further gains. This is what happened after the SARS crisis in 2003, the Swine Flu in 2009, the Ebola virus in 2014 and the Zika virus in 2016.1
(*A diversified portfolio includes a mix of various assets such as Stocks, Fixed Income, and Commodities. These assets may react differently to the same economic conditions. The value of one may rise while the value of others decline. A mix of assets can lower your overall risk because gains in one may offset losses in another.)
In addition, staying invested allows you to capture gains as markets recover. If you sell when markets decline, you’re:
- locking in a loss from selling at a low value and
- missing out on gains as markets rebound or recover.
4. Get professional help from an advisor
Are you worried about the possible impact of a recession on your savings? Talking to a professional may help to ease your concerns.
Now’s a good time to talk to your advisor if you have one, or to find an advisor if you don't. An advisor can help you:
- make well-informed financial decisions,
- find ways to reduce your debt and save more money,
- create an effective investment plan and build a well-diversified investment portfolio that meets your short- and long-term goals,
- revise your plan as your financial situation and needs change,
- provide you with confidence in times of uncertainty, and
- help you to avoid making poor, emotionally-driven decisions that could hurt your long-term financial goals.
Most advisors now meet with clients virtually by video chat.
- Find an advisor
- 5 tips for finding an advisor you can trust
- 3 ways an advisor can help you during COVID-19
1 Centre for Disease Control; World Health Organization; Bloomberg. Data as of March 4.