Last week, the April employment statistics came out. What they reported was not a pretty sight. Canada lost an additional nearly 2 million jobs. That employment report pushed the unemployment rate to levels not seen in decades. As of April 2020, unemployment sits at 13.10%. Does this mean the recession is fully here?
Employment statistics are often a lagging indicator, so it’s probable that the economy has already declined further. As the economic outcomes continue to mount, it’s important to look back at history. We have been through recessions in the past, some worse than others, but we have always recovered. By looking at the past we can get a potential understanding of how to maneuver today.
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What is a Recession?
Before looking at the 1990s recession, it is important to understand what a recession is.
A recession is a macro-economic term that refers to a significant decline in general economic activity. This is often measured by two consecutive quarters of negative growth.
The following are some general characteristics of a recession:
- Real GDP decreases.
- Firms faced with unwanted inventories and declining profits reduce production, postpone investment, curtail hiring, and may lay off employees.
- Business failures outnumber start-ups.
- Falling employment erodes household incomes and confidence.
- Consumers react by spending less and saving more, which further cuts into sales, fueling the recession.
In the last 100 years, there have been 18 recessions. This means that one occurred roughly every 5.5 years. Based on the table below, the average amount of time from the end of one recession to the beginning of the next was just over 4.5 years. Each recession lasted for an average of just over one year.
Below is a table outlining those recessions:
|Dates||Duration||Time since Previous Recession||Business Activity||Trade and Industrial Activity|
|Jan 1920 – July 21||1y 6m||10m||-38.1%||-32.7%|
|May 1923 – June 1924||1y 2m||2y||-25.4%||-22.7|
|Oct 1926 – Nov 1927||1y 1m||2y 3m||-12.2%||-10%|
|Peak Unemployment||GDP Decline|
|Aug 1929 – Mar 1933||3y 7m||1y 9m||24.9%||-26.7%|
|May 1937 – June 1938||1y 1m||4y 2m||19%||-18.2%|
|Feb 1945 – Oct 1945||8 m||6y 8m||5.2%||-12.7%|
|Nov 1948 – Oct 1949||11 m||3y 1m||7.9%||-1.7%|
|July 1953 – May 1954||10m||3y 9m||6.1%||-2.6%|
|Aug 1957 – April 1958||8m||3y3m||7.5%||-3.7%|
|Apr 1960 – Feb 1961||10m||2y||7.1%||-1.6%|
|Dec 1969 – Nov 1970||11m||8y 10m||6.1%||-0.6%|
|Nov 1973 – Mar 1975||1y 4m||3y||9%||-3.2%|
|Jan 1980 – July 1980||6m||4y 10m||7.8%||-2.2%|
|July 1981- Nov 1982||1y 4m||1y||10.8%||-2.7%|
|July 1990 – Mar 1991||8m||7y 8m||7.8%||-1.4%|
|Mar 2001 – Nov 2001||8m||10y||6.3%||-0.3%|
|Dec 2007 – June 2009||1y 6m||6y 1m||10%||-5.1%|
|Mar 2020 – Present||–||10y 9m||–||–|
Note: The list of recession above is for the U.S. However, this has a high correlation with the Canadian economy and is for illustration purposes.
This recession brought about the end of the Reagan boom. Several years prior to this recession, in 1987, there was a significant stock market crash. The stock market crash started on October 19, 1987. It was so severe that it was called “Black Monday“. The Dow Jones Industrial average saw a decline of 22% in a single day.
As a result of the crash, many people and businesses began to lose faith in the current state of the economy. With dwindling consumer and business confidence, unemployment began to rise and GDP started to decline. The recession reached peak unemployment in June of 1992 at 7.8%. GDP also had a max single-quarter decline in Q4 1990 of -3.6%.
What Caused the Recession
The recession of the early 1990s had several key contributors. Some of the key components had been building for years; the stock market crash of 1987, and unresolved issues from the early 1980s recession. Other factors were more immediate; Iraq’s invasion of Kuwait. There were other factors to consider as well: savings and loan crisis and changing monetary policy. Below we look at all of these factors and the roles they played.
Unresolved Issues from the 1980s recession
Although the economy recovered from the recession of the early 80s, a lot of the underlying issues were still prevalent. A large part of the recovery in the 80s was due to increased defense spending.
That increased spending stopped in the early 90s. This turned into large layoffs that saw unemployment increase substantially. These layoffs started a domino effect that was felt in many other industries (i.e., transportation, wholesale, trade, etc.).
The increased defense spending had masked the underlying issues. Once the gulf war was over, that spending could no longer be justified. In the end, the issues hadn’t been resolved and they were now showing their face again.
Stock Market Crash of 1987
As mentioned above, this stock market crash was quite severe. Although the causes were complex, many believed that it showed that investors were worried about the health of the economy. Of particular concern was the inflation that might occur as a result of the large federal deficits.
This large federal deficit was the result of “Reaganomics”, the tax cuts, and other monetary and fiscal changes we talked about last week. These tax cuts created an economic boom while also creating a drastic under-funding of expenditures.
To curb the concerns that were being voiced over the deficits, the federal reserve implemented a restrictive monetary policy. The outcome of this was a dramatic limit to economic growth.
This crash was an early indicator of what was yet to come. The economy was not in a healthy state and many were aware of that.
Raising of Interest Rates
After the recession in the early 80s, interest rates had begun to decline slightly. In Oct 1986, they sat around 5.8%. This was a significant decrease from their peak of more than 21% in 1981.
However, as the late 1980s developed, interest rates began to increase again. This had the same effect we talked about last week. The rising interest rates discouraged business expansion and decreased consumer purchasing power.
The rise of interest rates also had an effect on real estate, especially commercial. During the 1980s commercial real estate had boomed, and now the supply had out-weighted the demand.
Savings and Loan Crisis
This crisis cost $160 billion in total. Of which, $132 billion was paid for by taxpayers. These failures destroyed what used to be seen as a secure source of mortgages as well as the idea of state-run bank insurance funds.
This crisis was partly due to how the Savings and Loans industry was structured. Savings and Loans institutions were limited on the interest rates they could charge because of their legislation. So when stagflation occurred in the 1970s, the Federal Reserve increased interest rates.
This increase in interest rates made depositing money at Savings and Loans institutions unattractive. Depositors were able to get far better rates on their savings at other financial institutions. This was detrimental to S&Ls as their deposits depleted, due to less competitive rates, and the amount they could lend out continued to decrease.
Things continued to get worse for S&Ls in the 80s with the growing popularity of Money Market Accounts. By 1982, S&Ls were losing $4 billion a year.
All of this is to say that the financial landscape leading into the early 90s was not healthy.
Iraq’s invasion of Kuwait
On August 2, 1990, Iraq invaded Kuwait. This was done based on allegations that Kuwait had been taking Iraq’s oil. This invasion caused the price of crude oil to experience another significant increase. Within a week the price had risen to well over $20 a barrel.
Oil prices hit their peak in September of 1990 at a price of just under $40. Adjusted for inflation, that was still below the prices seen in the late 70 and early 80s. However, this still had a critical impact on US consumers.
In 1991, a coalition led by the US attacked Iraq and drove it’s occupying forces out of Kuwait. This caused oil prices to stabilize, but the effects had already taken root. Consumer confidence had now been further eroded.
What helped the Recovery
Although the recession only lasted 8 months, the following recovery was prolonged. As late as Jun 1992, unemployment reached nearly 8%. Normally, exports would play a significant role in economic recovery. This time around, it was different. Exports actually weakened due to continued economic problems in Europe and Japan.
One of the main contributors to the economic recovery was the advancements in technology. Around 1993 was when the desktop computer boom began to take shape.
These advancements were met with the lowering of interest rates. As we have talked about before, these lower interest rates helped to boost business development and consumer spending.
Two additional factors that contributed to the recovery were low energy prices and a growing real estate market. After a stagnant real estate market in the early 90s, due to overbuilding in the 80s, the mid-90s started to look different. Buildings were beginning to fill back up and houses were beginning to sell again. This was also in part due to the increased ease of borrowing with lower interest rates.
1990s Recession and 2020
Although the 1990s recession didn’t start because of a global pandemic, there are still several important similarities. These notables include things like the masking of economic issues and the stock market crash similarities.
Masking of the Issues
2020 has been a rocky year thus far, with us now being in the midst of a global pandemic. The value of a human life should always come first, but we have to remember that for the choices we make today, there will be consequences in the future.
The global pandemic has caused federal deficits in both Canada and the US to skyrocket. Governments are printing what seems like endless amounts of money and handing it out to almost anyone.
This seems really similar to what happened with Reaganomics. However, the 2020 version of Reaganomics seems more explicit with direct handouts to consumers. Not only will this increase government deficits (which could cause inflation), we believe that it will cause inflation in the wrong parts of the economy.
We often hear that we are seeing the strongest stock market ever, or at least we were. Well, we have to remember that there is a difference between a strong stock market and an over-concentration in over-valued assets. Some of the top stocks in the S&P 500 are trading at 50 to 60 times their annual earnings. You have to wonder, will some of these companies even be around in 50 to 60 years?
This leads us into the next point,
Stock Market Crash of 2020
We knew well before the 2020 crash that the economy was not in a great spot. Companies were way overvalued and looking at historic trends, we were due for a correction.
Well, a correction is exactly what we got. On February 12, all three major indexes in the US finished at record highs. Those highs were short-lived as the crash occurred 8 days later on February 20.
Between February 24-28 stock markets around the world reported their largest one-week declines since the 2008 financial crisis. Fast forward to March, and markets became extremely volatile.
On March 9th stock markets were hit hard. The Dow, NASDAQ, and S&P 500 had one of the worst days in history. This day was quickly referred to as Black Monday. But the fun didn’t end there.
After recouping some of the losses in the next 2 days, on March 12 things got worse again. Stocks in the US had their single biggest inter-day decline since 1987. This day was referred to as Black Thursday. Although due to the start of a global pandemic, people were now losing confidence in the markets and in their governments.
As of the time of writing, some of those initial losses have been recouped. For instance, the S&P is down just over -17% from it’s high on Feb 12. The S&P is also up more than +22% from its low point. Year to Date, it is still sitting down just over -13.5%
How are your broad market index funds responding right now?
Although 2020 has been a year for the books, there are still some historic similarities. The financial landscape going into 1990 was quite similar to what was and currently is being faced in 2020.
People were worried about potential inflation and government deficits in the late 80s and early 90s. A lot of our recent blog posts have been warning of the same things.
We have to remember to take a step back and breathe. Although things look bleak, the human race is innovative and resilient. We have been through similar times in the past and have treaded those choppy waters. Recessions have come and gone, stock markets have crashed and recovered, oil prices have gone up and down, wars have been won and lost, businesses have started and failed, but through it all, humankind has lived to tell the tail.
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