What if We're Headed for a Recession?

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We have a case of the slows.

It was already bad enough earlier this year. Growth was meager. Jobs barely kept up with a rising population. Consumer confidence, while up from 2009, was still pitiful.

Then August hit. First came the debt-ceiling melee. Then Europe snuck back into focus. In an echo of 2008, the solvency of a major bank came into question. Consumer confidence fell to the lowest level since early 2009. A new Gallup poll finds that 30% of those with a job worry about being laid off. Only a fraction ever will be, but that sense of fear can be self-fulfilling. If all of this is much ado about nothing, we're doing a good job convincing ourselves otherwise.

What it all means, no one knows. Several smart people, though, are beating the recession drum again. Here are four things to keep in mind if they're right.

1. The levers are all pulled
There's a standard remedy for recessions. The Federal Reserve cuts interest rates and makes some noise about being serious on employment. Congress fires off some sort of stimulus -- tax cuts, infrastructure campaigns, the extension of unemployment benefits, what have you.

But all of those levers are now pulled, or have become politically unpullable. Should we fall back into a recession, the only available response might be a shoulder shrug.

Most studies found that the 2009 stimulus package saved or created jobs, but this is controversial enough to render the thought of another stimulus package dead -- one can't prove a negative, so convincing people that it would have been worse without stimulus is a tough sell. The current payroll tax cut is opposed by Republicans; most other tax cuts are opposed by Democrats. All of these could (or did) help prevent calamity but have become so politically venomous that they're now untouchable.

The Fed does, in theory, still have some levers to pull. Interest rates are already at zero, but any central banker with a printing press still has bullets to fire.

The problem is that another round of quantitative easing likely wouldn't do much for the economy. Why? Same reason the last round disappointed. What we need is demand, and we won't get that until we're done deleveraging. Printing money isn't going to help in that situation. They call it a liquidity trap (PDF link), and it's about as cool as a cold sore.

2. It might not be that bad
This is somewhat of a counter to the first point.

There's a prevailing sense that any lapse back into recession will be a repeat of 2008-2009: Unemployment doubling, banks imploding, the Dow (INDEX: ^DJI) falling 60%, trade utterly collapsing, with years of misery to follow.

I never get tired of mentioning recency bias -- the tendency to think the future will look like the recent past. Assuming that the next recession will be like the last is a prime example of that flaw. We've had 10 recessions since 1948. The average saw GDP fall 1.7%, unemployment rise just over 2%, lasted for 10 months, and recovered swiftly thereafter. They are painful, but nothing like 2008.

And there's indeed reason to think that a looming recession will be less damaging than the last. Banks have more capital now than they did in 2008. Consumers have less debt. Home prices are far closer to a sustainable average. Businesses are leaner, free of layers of redundant workers who can be laid off without hurting sales.

There are few levers left to pull to help fight a recession, but that might be OK. We may not need them.

3. Definitions don't matter
When asked if we're headed back into a recession, bears like to argue that we're not, because we never recovered from the first one.

They consider this a devastating rejoinder, but it merely highlights that whether we're "officially" in a recession doesn't matter at all.  

The official declaration of recessions is made by the National Bureau of Economic Research. These folks seemingly wield power, but their press releases really shouldn't affect anyone. Most recessions aren't declared until well after the fact -- the last recession began in December 2007, but wasn't announced until a full year later. 

What matters are your personal circumstances. Are you unemployed? Then the economy hurts whether the NBER says we're in or out of a recession. Are you gainfully employed, debt-free, and saving money? If yes, then why should you care if a group of economists says things are bad? You shouldn't. So don't.

4. Recessions bring opportunity
1933. 1953. 1982. 1990. 2002. 2009.

Two things are special about these years. They were the peak of recessions, and they were some of the best buying opportunities of all time.

And it's not just stock opportunities. Recessions force businesses to think critically about strategy. They shake out weak companies and make room for true leaders. They push unemployed people to become entrepreneurs. They force consumers to shed debt. It's not a stretch to say most of what makes today's economy great has roots in a past recession. They are the true meaning of a necessary evil.

What do you think? Chime in below.

Check back every Tuesday and Friday for Morgan Housel's columns on finance and economics.

At the time this article was published Fool contributorMorgan Houseldoesn't own shares in any of the companies mentioned in this article. Follow him on Twitter @TMFHousel.Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insights makes us better investors. The Motley Fool has adisclosure policy.

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