Money Management

It is hard to read the economic tea leaves when it comes to recessions. 

Wouldn’t life be easy if we already knew what was going to happen to the economy in the coming weeks, years, or decades? We could make decisions about our personal finances, secure in the knowledge that life wouldn’t throw us a curveball.

Unfortunately, life doesn’t work that way and there’s little consensus among economists about when (or whether) the next recession will arrive. Everybody’s trying to read the economic tea leaves, but they all interpret the data differently.

Why is it so hard to know if we’re in a recession?

Broadly speaking, a recession is a period of serious economic decline. Some countries declare a recession after two consecutive quarters of negative economic growth. Others think this is overly simplistic and other factors should be taken into account.

The U.S. has what the White House calls an “official recession scorekeeper,” in the form of the National Bureau of Economic Research (NBER). It uses a mix of indicators such as employment, income, spending, and production to make the call. The only catch is that the NBER only confirms recessions once they’ve started — and sometimes after they’re over.

What we can learn from previous recessions

Recessions are part of every economic cycle. History tells us that no two are exactly alike, but they all eventually pass. History also shows us what causes recessions. This includes high interest rates, a loss in consumer confidence, dramatic world events such as wars, and financial jolts, such as the collapse of the housing bubble in 2008.

If we look at those triggers through the lens of what’s happening today, it is easy to see why so many economists forecast a recession. Consumer confidence is starting to fall, the geopolitical outlook is uncertain, and Russia’s invasion of Ukraine has put pressure on food and energy prices around the world.

Inflation and interest rate hikes

High inflation doesn’t always trigger a recession. But high interest rates often do. And rate hikes are one of the main tools the Federal Reserve is using to tackle inflation. Inflation is down from its 9.1% peak last June, but is still high. Data from the Bureau of Labor Statistics (BLS) showed average living costs in January 2023 were up 6.4% year on year.

By raising rates, the Fed hopes to slow the economy and curb rising prices. Unfortunately, it’s a blunt instrument with a long-time lag, so it is difficult to know when enough is enough. Some have drawn comparisons between what’s happening now and the high inflation rates of the 1970s, also known as the “Great Inflation.” Back then, the Fed’s aggressive rate hikes did indeed trigger a recession.

Unemployment figures

The other side of the coin is that the jobs market continues to be strong. While there have been high profile layoffs in the tech and banking sectors, the U.S. added over 500,000 jobs in January. The BLS said unemployment remained steady at 3.4%. In normal times, these figures would be reassuring. But many analysts are concerned that strong jobs data will cause the Fed to raise interest rates even more.

How to prepare for a recession

We’ve been hearing warnings about a potential recession for so long, it’s tempting to tune them out and prioritize other things. But even if we don’t enter a recession, these steps could still stand you in good stead for the future.

1. Build up your emergency fund

An emergency fund of three to six months of living expenses could tide you over if you lost your job or faced another financial crisis. Given the high levels of financial uncertainty, some experts advise saving even more right now. However, many Americans have less than $500 put aside for emergencies.

If your emergency savings aren’t where you want them to be, there are steps you can take:

Look at your spending. Use a budgeting app or look at your recent bank statements to map out where your money goes.Increase the gap between what you spend and what you earn. See if there are areas where you can save. Perhaps you can cut a subscription service or store-bought coffee for a while. Even stashing $10 or $20 a week into your savings account will add up over time. If you can’t find ways to reduce expenses, perhaps you can take on a side hustle to earn more.Set yourself an achievable goal. Work out how much you can set aside each week or month and start to make regular contributions. You can do it manually or use an automatic transfer from your bank account.Celebrate your successes. Look for small ways to treat yourself so saving becomes more pleasurable. You might cook your favorite dinner when you save your first $500, or do something special for each month you meet your goals.

2. Pay down debt

Debt, particularly high-interest debt, can eat into your available income. Added to which, recessions often go hand in hand with higher interest rates and stricter requirements for credit cards or loans. Becoming debt free is not easy, but it can make a huge difference to your financial security.

As with building up your emergency savings, the first step is to make a plan. If you don’t have any cash to spare, look at your budget to see if there’s any non-essential spending you can cut. Every dollar of debt you pay down before a recession hits could make life easier, so try to be ruthless about the things you need versus those you want.

Next, make a list of all your debts, noting down how much you owe and what interest you’re paying. There are different approaches you can take, but one popular route is the debt snowball method. This involves putting all your money toward the debt with the smallest balance so you get the psychological win each time you pay one down.

Another option is the debt avalanche method. Here, you’d focus on the balance with the highest interest rate first so that you pay less in interest over time. Check out our guide to paying off debt for more information on these and other debt payment strategies.

3. Take steps to safeguard your career

One of the reasons some economists are optimistic we can avoid a recession is that the job market remains relatively stable. Nonetheless, even the most dedicated of workers can find themselves out of a job when recessions strike. Take some time now to plan what you’d do if you were laid off. Dust off your resume, update your profile online, and reach out to your professional network.

If you want to continue with your current company, you could talk to your boss to stress your commitment and find out how you can contribute more. Be as proactive as you can, particularly if you have ideas that could save the business money or generate revenue.

If you want to switch to a new career, think about what skills you might need and how you might build them. Perhaps there are courses or certifications you can start now that will help you hit the ground running. Work out what transferable skills you have and how you might present them to a potential employer.

Bottom line

Given how serious the implications of a recession could be for our jobs and homes, you’d think they’d be easier to define and predict. History gives us some clues, but we’ve just lived through an unprecedented global pandemic and that makes it harder to forecast what might happen next. The best thing most of us can do is shore up our finances so we’re ready in case a recession does arrive.

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We’re firm believers in the Golden Rule, which is why editorial opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers.
The Ascent does not cover all offers on the market. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team.Emma Newbery has positions in Avalanche. The Motley Fool has positions in and recommends Avalanche. The Motley Fool has a disclosure policy.

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These states are believed to collectively hold 60% of the nation’s wealth. 

In seven states across the country, Democratic lawmakers are proposing broad changes to how taxes are collected. Seeking to increase taxes on wealthy residents, the legislators simultaneously introduced a variety of proposals in their respective state legislatures last month. Here’s what you need to know about the proposals.

What are wealth taxes?

The basic idea behind a wealth tax is to raise additional funds through tax initiatives that largely affect the most affluent taxpayers. But while the timing of the new bills was coordinated, the proposals differ significantly from state to state.

Lawmakers in many states are seeking a change to the capital gains treatment of assets, which are currently taxed at a preferential, lower rate than traditional income. Legislators in Connecticut, Hawaii, Maryland, and New York are seeking to raise the state capital gains rate by between 1% and 7.5%. Bills in California, New York, Washington, and Illinois would implement an unprecedented “mark-to-market” tax on unrealized capital gains.

Among the proposals are measures more obviously targeting the wealthy. Lawmakers in Connecticut put forward a bill to raise the income tax rate on higher earners. Meanwhile, legislators in California are proposing a tax on those with over $1 billion in assets. Additionally, Democrats in Hawaii, Maryland, and New York are proposing lowering the estate tax exemption.

What do opponents say?

As you might expect, wealth taxes are highly controversial. Opponents of the idea argue that wealth taxes are economically detrimental in theory and unfeasible in practice.

One argument against wealth taxes concerns the economic impact of taxing, either through “mark-to-market” or asset taxes, unrealized gains. Critics argue that without favorable tax rates, investors may lose a key incentive to invest in America’s capital markets. An additional concern is that investors with highly appreciated stock or business interests may need to sell part or all of their investment or company in order to cover their tax bill.

Opponents also argue that wealth taxes will be difficult to enforce long term. Barring nationwide wealth tax initiatives, an affluent taxpayer living in tax-heavy California could easily move to tax-free Texas. While California lawmakers have anticipated such a move with a so-called “exit tax,” the provision would likely be struck down in federal court.

Will these bills pass?

The prospects for these bills vary from state to state and bill to bill. While Democrats generally support raising taxes on the wealthy, some proposals may be a bridge too far for the more moderate members of the party.

An outright wealth tax based on taxpayers’ assets may be a non-starter for many Democrats. Washington State’s most recent wealth tax initiative did not pass, and a similar bill in California shows a lack of support thus far. Meanwhile, a proposal to raise capital gains in Washington State passed the legislature last year, and a similar bill in New York has garnered strong support.

While some of the more radical bills are expected to fail, the more moderate ones may have a better chance of passing. Regardless of the outcomes for these specific bills, however, it is important to note what legislators are signaling. Lawmakers at the state and federal level, on both the political right and left, are calling for radical tax changes. And that could indicate an appetite for sweeping tax reform in the near future.

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The Ascent does not cover all offers on the market. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team.The Motley Fool has positions in and recommends Target. The Motley Fool has a disclosure policy.

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There’s one key step that could help you avoid financial devastation after losing a job. 

Today’s labor market is pretty strong. The national jobless rate just reached a 54-year low, and a lot of companies are hiring.

But that doesn’t mean workers are immune to layoffs. We’ve already seen a lot of big companies announce plans to downsize early this year. And while most of that activity has stemmed from the tech sector, it hasn’t been limited to it, either.

Even if you’re a hard worker with a great reputation at your company, it won’t necessarily stop you from losing your job if your employer is forced to make cuts. The same holds true if you’ve been with your company for many years — seniority won’t always serve as a means of protection if downsizing staff becomes necessary.

In a 2022 BizReport survey, 73% of laid-off workers struggled financially after the fact. If you want to avoid that fate, there’s one key step you can take to prepare.

Unemployment and severance may not cut it

When you lose a job through no fault of your own, you’re generally entitled to unemployment benefits from your state. But those may not do a very good job of replacing your missing income. In many cases, you won’t even collect so much as half your paycheck, depending on your state’s maximum weekly benefit.

What’s more, not every company that downsizes offers laid-off workers severance pay. And among those that do, that pay might only amount to a few weeks’ worth of salary. So you can’t assume that unemployment benefits and severance will pay you enough to cover your bills the entire time you’re looking for work.

That’s why it’s so important to build yourself a solid emergency fund. At a minimum, you should aim to have enough money in your savings account to cover three full months of bills, as it could easily take that long to find a job. But depending on the nature of your work and industry, you may want to aim for more savings than that.

Let’s say you work in a smaller industry where jobs aren’t always abundant. Or let’s say you have a specialized role that not every company needs to fill. In that situation, you may want to sock away even more money for a layoff, because it might take you longer to find a job.

In fact, in the wake of the pandemic, some financial experts have been encouraging workers to save enough to cover up to a year’s worth of bills. That might sound like a lot of money to tuck away in the bank, but you never know when you might struggle to find work after losing a job. So having extra savings buys you an opportunity to take your time looking without having to settle for any old job just to bring in a paycheck and avoid credit card debt.

Don’t leave yourself financially vulnerable

It can be difficult to determine when a layoff might hit. But if you make a point to maintain a solid emergency fund, the idea of one may be less stressful. And you’re apt to struggle a lot less financially if your job is actually taken away.

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If you’re buying insurance, you should check out this advice. 

If you buy a property, you need to protect both the home and your assets within it. If you are a renter, you still need to protect all the stuff you keep in your apartment and you also must protect yourself against liability if someone is hurt in your space.

That’s why it’s so important to buy homeowners insurance or renters insurance. The premiums for these policies can be a hit to your budget, though. The good news is, finance expert Dave Ramsey offered two tips for saving on coverage costs. The big question for owners and renters, however, is whether these tips are worth following.

Here’s what Ramsey suggests doing to save on insurance as well as some advice on whether you should follow his recommendations.

1. Ramsey recommends changing insurance agents

Ramsey’s first recommendation is to talk with an independent insurance agent about your coverage options to make sure you have the most affordable policy.

“Most people set up their insurance and leave it until they move,” Ramsey said. The problem with this approach is that there may be cheaper insurance options out there from other companies that offer equally good coverage but at a lower price point. Ramsey believes an independent insurance agent could help you find out if there is indeed a better deal out there.

“They’ll shop around until they find the best fit and rate for where you are in life. You can save hundreds a year with minimum effort,” he said.

Ramsey is right that independent agents do this. And if you don’t have a lot of time or aren’t very knowledgeable about shopping for coverage, there’s nothing wrong with getting help from an agent to compare your options. In fact, agents will not charge you a fee for this service so you don’t have to worry about whether the cost of getting assistance is worth it.

Of course, you can also shop around for insurance coverage on your own to see if you’re paying the fairest price. Whether you work with an agent or go the DIY route is really a matter of personal preference in most cases. The important thing is that you shop around and compare homeowners and renters insurance prices regularly to avoid overpaying for a policy.

2. Ramsey also advises picking a policy with a higher deductible

Ramsey also advises raising your deductible to save on premiums. That’s the out-of-pocket payment you’d have to make toward a covered loss before insurance kicks in.

“Insurance policies with higher deductibles have lower premiums — meaning they cost you less monthly,” Ramsey said. “Of course, you’d have to pay more in an emergency, so wait to raise that deductible until you’ve got your fully funded emergency fund in place to cover anything that — God forbid — comes your home’s way.”

This advice can make sense as well if you are confident you could pay the cost of a higher deductible out of pocket. If you would struggle to come up with the cash, this may not be a good way to save on insurance premiums. The last thing you want is to worry about where you’ll get thousands of dollars after a disaster.

Both of these techniques can definitely give you a good chance to save on insurance coverage options, though, so as long as you try them with both eyes open, listening to Ramsey could indeed end up saving you some cash.

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We’re firm believers in the Golden Rule, which is why editorial opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers.
The Ascent does not cover all offers on the market. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team.The Motley Fool has a disclosure policy.

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