When the productivity of different industries in an economy declines, it is called a recession. Economists and policymakers use different leading indicators of recession that signal the actual status of the economy. Below are some of the commonly used indicators globally:
Leading Indicators of Recession
1. Contraction of GDP:
GDP (Gross Domestic Product) is the monetary value of all finished goods and services produced in an economy over a certain period. When GDP contracts, it signifies that fewer finished goods and services are produced in an economy.
Many consequences are felt in the economy when it’s realized that GDP is contracting. One of these is unemployment. Unemployment is a ripple effect in the economy whenever there is diminishing productivity. A lower GDP than previous periods signifies producers have rationalized the factor of production. Since the labor force is among these factors of production, it translates to layoffs in most companies.
2. Increasing unemployment rate:
Unemployment occurs in many ways in an economy. Unemployment may be due to the inability of the economy to create more jobs for its population. In other cases, it is due to a decline in labor demand, hence layoffs, as discussed above.
If unemployment is increasing, whether there are layoffs or not, this is among the leading indicators of recession. It signals that employers cannot fully absorb the employable people in the population.
An increasing unemployment could also signal the inability of people to establish their self-employment ventures. This could be due to diminishing demand for products and services and contracting consumer’s purchasing power to support new ventures.
3. Inverted Yield Curve:
One of many ways that the government raises money domestically is through bonds. Typically, long-term treasury bonds yield higher returns for investors, and short-term treasury bonds yield lower returns. For instance, a normal yield curve may pay an investor a 3% return for a 6-month bond and a 5.5% return for a 10-year bond.
An inverted yield curve happens when returns on treasury bonds are higher in the short term than in the long term. For example, a 5% return on a 3-month treasury bond and a 3.4% return for 5 years for the treasury bond could signal a recession.
4. Consumer Confidence Index:
Consumers in the economy are you and me. We buy goods and services for their utilities. As consumers, we are wired to purchase more when we know our future financial status. This assurance comes from job security and stability of our investment and business startups, among other avenues of our income.
When we are not sure of tomorrow’s finances, we lessen our consumerism behaviors. Our lower consumption signifies businesses are selling fewer units of their finished products and services. If the consumer confidence index decreases, businesses result in layoffs to cut operation and production costs. This translates to unemployment. Thus, the consumer confidence index becomes part of the leading indicators of recession.
How to Prepare for A Recession
1. Budget and stick to it:
If there is a looming recession, counter-check on your consumerism behaviors. Come up with a budget for your needs and wants, and stick to it by all means. Do not let anything push you to spend beyond your budget if possible. If not, don’t overdo it; spend within your set outliers of your budget limits.
In case it’s possible to spend below your budgeted amounts, save the margin you never spent. It will save you in the future in case a recession happens.
2. Pay your high-cost debt fully:
High-cost debts will inhibit your ability to save during its repayment. Repaying all high-cost debts leaves you with enough money to contribute towards your emergency fund.
Intending to settle your high-cost debt entirely is one thing, and settling is another. In scenarios of an onset recession and you cannot repay your high-cost debts, try to reduce your financial liability towards them.
3. Reinforce your emergency fund:
You may not accurately predict what will happen during a recession. Maybe you could lose your job or your business’s sales volume.
To avoid getting caught and suffering during a recession, ensure your emergency fund is sufficient for the unprecedented.