4 Reasons the Next Recession Could Be Worse Than 2008

4-reasons-the-next-recession-could-be-worse-than-2008

As unbelievable as it sounds, there are people who believe that the US economy is doing well. For some reason, they think that high and rising inflation is a sign of a heated up and strong economy. But the reality is that the US economy is far weaker and more fragile than it looks. And the risk of recession is growing every day.

Many market observers seem not only to discount the likelihood of a recession, but also its severity. The reality is that the next recession could be far worse than 2008. And if you’re not prepared for it, you could end up suffering a great amount of financial harm.

The economy today isn’t what it was even 15 years ago. Much of what goes on today is influenced heavily by the easy money that has flowed since 2008. And with that easy money being shut off, the correction could be incredibly painful when it comes. Here are four reasons the next recession could be worse than 2008.

1. Fed Threatening to Cut Balance Sheet

Not only is the Federal Reserve threatening to raise interest rates far faster than many anticipate, it is also threatening to cut its balance sheet. That’s somewhat unusual, given the fact that the Fed just finished a major expansion to its balance sheet, making the problem of inflation even worse.

At some point the Fed will have to return its balance sheet to normal, but there are problems with doing so. The Fed’s two biggest categories of assets are US Treasury securities and agency mortgage-backed securities. The Fed owns 24% of all US Treasury debt held by the public, and about 22% of all mortgage-backed securities (MBS).

That makes the Fed a major player, indeed a market maker, in each of these categories. If the Fed tries to sell large amounts of either Treasury securities or MBS, it could drive down prices of these assets and spike interest rates, forcing interest rates even higher and diminishing the Fed’s ability to influence interest rates through monetary policy.

Some have speculated that the Fed could just allow some of the assets on its balance sheet to expire at term, which is easier to do for Treasury securities than for MBS. But the federal government would still want to roll over those expiring securities, so who will buy that new issuance? If the Fed is out of the market then the government would rely on financial markets to pick up the slack. But if markets aren’t being backstopped by the Fed anymore they’ll likely demand higher interest rates, raising the government’s cost of borrowing.

As bad as increasing the Fed’s balance sheet has been, shrinking it could be just as dangerous, if not worse. Remember that one of the reasons for the Great Depression’s severity was the fact that the Fed didn’t just sit on the sidelines after its great monetary expansion of the 1920s, it actively pulled liquidity out of the system, making what would have been a bad crisis even worse.

The Fed’s monetary expansion will always lead to recession. It’s the root cause of the business cycle, manipulating interest rates and price signals that cause malinvestment throughout the economy. Once that runs its course and the malinvestments are discovered, the period of correction occurs as unproductive resources are liquidated and put to better use.

But if the Fed actively interferes with that natural correction process by pulling liquidity out of the system, it could exacerbate the severity of the correction. The Fed now is playing with fire, and the wisest thing to do now would be to sit on the sidelines and let things take their course.

Of course, the demand to “do something” is strong, and so the Fed could very well actively shrink its balance sheet so severely that it will end up creating an even stronger and deeper recession than we otherwise would have gotten.

2. The Bubble Has Never Been Bigger

One of the reasons this recession could be even worse than 2008 is because the bubble the Fed has blown is even bigger this time around. Much of that is the result of the Fed’s unconventional monetary policy, which has ballooned its balance sheet to more than 10 times its pre-crisis levels.

Prices of every single asset imaginable are at high and unsustainable levels. You’ve probably heard people refer to the “everything bubble.” Prices for stocks, cars, houses, and food have been rising and show no signs of slowing. Everywhere you look, everything seems to be getting more and more expensive.

At the same time, wages haven’t increased nearly as quickly, pinching the pocketbooks of millions of Americans. Ultimately these bubbles aren’t sustainable, and it’s only a matter of time before they burst. And when they do burst, the effects will be very painful for many people.

3. No Room to Maneuver

The economy is still not fully recovered from the most recent recession, with supply chains still in disarray and employers searching far and wide for people to work. Inflation is starting to run out of control, and there’s a very real risk that the economy could collapse into stagflation.

We could very easily see a return to an economy like that of the 1970s, with a weak economy, rising prices, and stagnant stock markets. It wouldn’t be a very good time for investors either, and it could last for years.

The Fed has the unenviable task of trying to hike interest rates and shrink its balance sheet in the face of a recession. Normally the Fed has at least some wiggle room, and its hikes take place when the economy is actually strong. This is an almost unprecedented situation, one in which the Fed is under tremendous pressure to stop inflation, all while facing a near certain recession.

If a recession occurs before the Fed is able either to hike rates or shrink its balance sheet sufficiently, it won’t have much room to maneuver. As a one trick pony, the Fed always resorts to monetary easing in order to counter a recession. But if interest rates remain low and the Fed’s balance sheet remains elevated, it won’t be able to do much.

Even if interest rates were to rise to 2%, that wouldn’t leave much room for interest rate cuts. And even if the Fed were to cut $1-2 trillion from its balance sheet, the amount of monetary expansion that the Fed would feel is warranted to counteract a recession could very well be in excess of that amount, and would undo all the Fed’s work to tighten up and normalize monetary policy.

In short, the Fed finds itself between a rock and a hard place. It’s damned if it does something and damned if it doesn’t. Now we just have to hope that whatever the Fed decides to do (and it will do something) won’t make the situation worse than it already is.

4. Massive Debt Bubble

The Fed isn’t the only one facing a tough situation. The debt bubble has grown so massive that when the next recession occurs, many households and businesses won’t be able to cope. Corporate debt has nearly doubled from pre-crisis levels, from $6.4 trillion at the beginning of 2008 to $11.7 trillion at the end of last year.

Household debt has moved higher in recent years too, from $14.5 trillion at the beginning of 2008 to $17.9 trillion at the end of last year. And of course, who can forge the biggest debtor of all, the federal government? The national debt has more than tripled, from $9.4 trillion at the beginning of 2008 to over $30 trillion today.

Households and businesses that are deep in debt aren’t going to be able to weather a crisis nearly as well as those who are in sound financial shape. We all remember how bad the 2008 crisis was for indebted American households and companies. With a much greater debt load this time around, the impacts of the next recession could be far more severe.

Protect Yourself Against Recession With Gold

The question you have to ask yourself is, are you in good enough financial shape to weather the next recession? Many Americans thought they were prepared in 2008, but they found out the hard way that much of their wealth was ephemeral.

Housing prices plummeted as the crisis worsened, and stock markets lost over half their value. People who had worked decades to build up their nest eggs saw significant portions of their wealth wiped out in no time at all. And it took years for markets to return to any sense of normalcy.

At the same time that many people saw their investment portfolios declining, they also saw gold climbing. In fact, gold nearly tripled in the aftermath of the 2008 crisis, hitting all-time highs in 2011. Many people who saw that performance vowed that they would invest in gold the next time a recession threatened.

Now may be that time, as all the factors are lining up to provide gold with everything it needs to make a strong run for at least the next few years, if not longer. With the Fed poised to pull money out of the financial system, and the risk of a recession growing every day, those who remain in stocks too long may find themselves in a situation reminiscent of 2008, or even worse.

The effects could be especially dire for those in or nearing retirement, making it all the more important to protect your retirement savings before the next recession comes. Thankfully there’s a way to do that, with a gold IRA.

A gold IRA allows you to invest in physical gold coins or bars while still enjoying the same tax advantages as a conventional IRA. That means you can use pre-tax dollars to invest in gold, and any gains you make aren’t taxed until you decide to take a distribution. At distribution time you can choose to take your distribution either in cash or in gold.

Many people choose to fund their gold IRA through a rollover or transfer from existing retirement accounts, such as a 401(k), 403(b), IRA, TSP, or similar account. These rollovers and transfers can normally be done tax-free, allowing you to protect your existing retirement assets while still enjoying the same tax benefits you currently have.

If the next recession ends up being worse than 2008, the earlier you get prepared, the better. Don’t let a recession creep up on you and destroy the value of your hard-earned money. Call Goldco today and start putting gold to work for you in safeguarding your retirement savings.

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About the Author: Paul-Martin Foss