5 Warning Signs the Economy is About to Crash

Though the stock market continues to chug along despite a recent pullback, it continues to seemingly recover from even the worst news: a nation gripped in a pandemic with evidence of a potential resurgence, social unrest, and with record unemployment, the challenges we face seem to paint a different story.  The Coronavirus pandemic has exposed how many countries are ill-equipped and unprepared to deal with a virus of this magnitude, it showed how vulnerable food supply systems are, and it revealed how fragile our economic systems can be. The biggest impact that the pandemic has had is on the global economy. Numerous countries have shut down borders, businesses, and their economies and ordered people to stay in their homes in hopes of containing the spread of the virus. In the U.S., the effects of this action were painfully felt in April 2020, when the Bureau of Labor Statistics said that the country lost 20.5 million jobs.

This resulted in an unemployment rate that ballooned to 14.7%, which is an increase of 10.3%. It’s the highest rate and largest one month increase in history (since data started being recorded in 1948). The country’s Gross Domestic Product also suffered, as it decreased at an annual rate of 5% during the first quarter of 2020, according to the Bureau of Economic Analysis. These numbers haven’t been experienced since the Great Depression. Is the economy teetering on the edge of collapse?

With a new disaster or crisis seemingly occurring every month of 2020, it makes you wonder if we are hurtling blindly towards a financial collapse? In this blog, we will look at 5 indicators that reveal how and when things could get worse to hopefully give us insight into how we can best prepare for the uncertain future we currently face.

Stock Market Doesn’t Reflect Reality

One of the most obvious indications that there’s a recession or financial collapse on the horizon is the stock market. When the Great Depression began in 1930, one of the primary reasons for it was the stock market crash of 1929, which saw the worst declines (the Dow Jones Industrial Average dropped by 24.8% on Oct. 29, 1929) in U.S. history and destroyed confidence in the country’s economy. There was broad sell-off in the stock market in the first quarter of 2020 (particularly in February and March) due to the uncertainty of the Coronavirus and how the measures to combat it will affect the economy. However, the sell-off was short-lived and the stock market is once again on the rise or is, at least, staying afloat. This is despite the many different statistics and data that show how the pandemic has affected the country like the 14.7% unemployment rate equaling 20.5 million jobs lost in April. So why is this the case? There are actually several reasons why the stock market is still performing well or at least why it hasn’t fallen off the cliff after all of the things that happened.

One, the government acted quickly in ensuring the economy won’t just nosedive into a recession. Back in March, the CARES Act was signed into law, which is a $2 trillion federal stimulus package. The U.S. Federal Reserve also announced that they would engage in an unlimited asset purchase. They launched $700 billion worth of asset purchasing and also cut interest rates to zero. Though the initial response was negative, these policies have helped in greatly easing the negative impact caused by the shutdown to the economy because of the pandemic. These policies also increased market confidence and made people inclined to believe that the worst impact had already occurred and things would only get better from there. Another reason the stock market continues to perform well is that companies that aren’t directly affected by the Coronavirus, like technology companies, weren’t badly affected by the shutdown, hence their stocks continued to rise. This is seen in the performance of the Nasdaq, which is close to making new all-time highs. Companies that are directly affected, like airlines and hotels, continue to do poorly, so not everything is all positive in the stock market. It’s also important to consider that the market is a forward-looking indicator, which means investors are looking towards the future and are putting their money on companies that they think will do well or recover after this ordeal. This is why there’s an increase in money going to companies that are doing their business online since investors believe they’re the companies that will do well during these trying times.

Another reason the stock market may be running contrary to the realities is that there really isn’t anywhere for investors to go with their money. The bond market is offering super low to no returns and with the uncertainty of employment, there isn’t a big demand for big-ticket items like houses and cars. So people are forced to keep their money in the stock market, especially since they don’t want to miss out on the possible returns they could achieve. Though this seems like a sign that good things are about to come, it’s critical that you stay cautious. Not all investors believe the worst is already behind us, Warren Buffet being one of them. It’s also critical to note that though the stimulus and asset purchases from the government can keep many companies afloat, this is only a short-term solution. In the long-term, companies will still need to have sales to keep their businesses running. With the uncertainty of employment, people might not be willing to make too many purchases once the government starts lifting the lockdowns. What you can do here is to be more active with your investments, especially the ones you put in the stock market. 

The real problem with the stock market, however, is that only 51% of Americans own stocks, and most of those stocks are in retirement plans or 401ks. These plans are mostly stagnant in the market to lessen the effect of volatility. While panic selling can still occur, typically this isn’t panic selling by fund managers, so it is definitely not part of the average American’s stock market activity.

As an indicator of an economy’s health, the Dow Jones Industrial Average, the NASDAQ or any market index based on stock, isn’t really a good barometer of the overall health of the economy.  So while markets remain up, despite the obvious gloomy news, we could still be hurtling towards a collapse.

Will the U.S. GDP get Worse?

The country’s Gross Domestic Product measure has contracted by 5% during the first quarter of 2020. This contraction marks the first time since 2014 that the U.S. GDP turned negative. It was also the largest drop that the country experienced since 2008, which shows how bad the contraction in the first quarter of the year. One of the main reasons for the contraction is the effects of the country’s response to try and slow down the spread of Coronavirus. The “stay-at-home” orders in March forced schools and many businesses to close their shops and lose revenue during this period. This resulted in 26 million people filing for new unemployment insurance claims during the same period and retail sales dropping by 8.7%. Services consumption also suffered, shrinking by 10.2%. This is a big problem for the U.S. economy since 70% of the country’s economic activity is based on consumer spending. Manufacturing output also dropped by 6.3%, the largest drop since 1946. Manufacturing, which accounts for 11% of the U.S. economy, was already struggling due to the trade war with China. The pandemic just made it worse. Many companies also decreased spending as business fixed investment decreased by 8.6%, the most since 2009. This is also a casualty of the trade war that was made worse by the pandemic. Durable goods orders also dropped and the biggest culprit is the decrease in orders for aircraft. These figures are concerning, but many experts believe that this will only get worse in the second quarter of 2020.  The takeaway here really is that despite the high flying stock market, almost every one of the other indicators of collapse is down or near historical lows.

In fact, even if the official figures for the second quarter haven’t been announced yet, the National Bureau of Economic Research, which is the official arbiter of recessions, declared on June 8, 2020 that the country has officially entered into a recession. Normally, a recession will be declared if the economy experienced 2 straight quarters of contraction. But that isn’t always the case and it’s really up to the NBER to determine if the country is indeed in a recession already or not. The committee said that “a significant decline in economic activity spread across the economy, normally visible in production, employment, and other indicators. A recession begins when the economy reaches a peak of economic activity and ends when the economy reaches its trough.” Even if they don’t wait for an official figure, the latest estimate for the second-quarter GDP is very bleak. The Federal Reserve Bank of Atlanta published that the estimated GDP for the 2nd quarter will be -48.5%. This declaration or recession has ended the U.S. economy’s longest expansion in history, which started in 2009 and lasted for 128 months or almost 11 years. Many experts, though, believe that the contraction won’t go beyond the second quarter, especially since the economy is once again opening up, which means businesses will also start to open.

The unemployment rate for May 2020 decreased to 13.3%, down from the April high of 14.7%. This return to employment shows the hiring back of some key employees, but we would be mistaken to assume all employees at any business will be hired back.  That leaves the unemployment rate still to be hovering at historic highs. The fact of the matter is, our country has already entered into a recession, and though many experts are saying that things might get better, those same experts also predicted previously that unemployment would worsen. This means that no one really knows what will happen in the next few months. It’s safe to say that we haven’t ever been in this exact spot before.  Consumer spending continues to drop and plunged by 13.6% in April, according to the Bureau of Economic Analysis, which is the highest since the government started tracking it in 1959. This beats the previous high of 6.9%, which just came out last March 2020. This shows that even if businesses start to open, people might not be willing to spend money just yet.

While the GDP may show little bumps, it clearly remains down, and further strain could force further negative forecasts and declines.

Economic Inequality Gaps

Another sign of a possible financial meltdown is the continued problem of income inequality in the U.S. The recent death of George Floyd and the nationwide protests that followed have once again put the spotlight on the perceptions of a racial divide and an inequality that is plaguing the country. This has been a problem for many decades already, but the income inequality gap has been increasing since 1970. This is further compounded along racial lines.  The difference between the median household income between black and white Americans has grown from $23,800 in 1970 to $33,000 in 2018 (when measured in 2018 dollars). Wealth is also a problem as a 2016 Federal Reserve’s Survey of Consumer Finances also shows that $17,600 is the median net worth of black households compared to $171,000 for white households– a staggering multiple of 10 times. An analysis by the Brooklyn Institute showed that this wealth gap is wider now compared to at the start of the century. The unemployment rate has not been kind to African-Americans as well, as the May 2020 jobless rate for black workers is at 16.8% while white workers are only at 12.4%. Growing income inequality is actually a good predictor of an impending financial crisis, according to a paper by the Federal Reserve Bank of San Francisco. The paper demonstrated that “years of rising income inequality and persistently low productivity growth also sow the seeds for a crisis.” Recessions tend to be more severe and recovery slower if there are significant income inequalities.

Another thing to consider with income inequality is that a majority of the people who don’t belong to the top 1% are usually envious of what the wealthy have, according to a 2019 article from Forbes. To try and keep up, these people will start borrowing money, which they will have a hard time paying back and use it to buy things to make them feel happy or satisfied. One example given was the Great Recession in 2007, where many people with low incomes took on subprime mortgages to buy houses. When they couldn’t afford to pay back, not only did people lose their homes, but many financial businesses tanked because of the uncollected debt. The Federal government even had to step in to bail out some of these banks so they wouldn’t go bankrupt. Millions of jobs were also lost during this period, which severely affected consumer spending. And as income inequality is becoming worse each year, it’s not hard to see that this could lead to another financial collapse. In fact, a 2019 article from the Washington Post mentions that the wealth concentration is once again returning to levels last seen during the Roaring Twenties, which preceded the Great Depression.

The Pandemic Destroys Consumer Confidence

Probably the greatest indicator of a looming economic downturn is consumer confidence.  As mentioned earlier that Consumer Spending accounts for 70% of the U.S. GDP. This means that as long as people are spending money and buying things, our country’s GDP will likely perform well. But people haven’t been buying things lately due to the effects of the Coronavirus pandemic and the government’s response to shutting down the economy. The Consumer Confidence Index chart of the last 7 years shows a nearly vertical drop in 2020. The main culprit for the decrease in spending was the drop in outlays on healthcare because dental offices closed down and hospitals postponed surgeries and non-emergency visits to focus on Covid-19. Spending on restaurants, food, and beverages, also decreased during this month. Though people ramped up their online spending, it’s not really enough to compensate for the loss of spending in other areas. These figures, together with the jump in the unemployment rate for the month, as well as the 20.5 million jobs lost, highlights how devastating the Coronavirus pandemic has been.

Even if consumer sentiment improved slightly in May because of the stimulus programs that the government implemented, it might still not be enough to get people to start confidently spending more money. The pandemic also changed people’s buying behavior and this will likely continue even after the pandemic is gone, according to an article from Accenture. When it comes to buying things, people are now focused more on the basic necessities of life with personal health being the top priority. People are also more mindful about what they are buying, shopping for only what they need, being more cost-conscious, and focusing more on sustainable options. There is also an increase in demand for local products, and 46% of people who never worked from home previously are now planning to work from home more in the future. What this shows is that just opening the economy might not be enough to get people to start spending again. Businesses will have to adapt quickly to these new buying behaviors if they want to attract buyers to their products and services.

Civil Unrest Derails the Recovery

Civil unrest has erupted across the country following multiple videos of police brutality.  Some of these crowds have led to violence and looting. This situation comes as the country is trying to jumpstart the economy following the devastating effects of the Coronavirus pandemic. Many businesses in different states are just starting to open up their stores after months of being closed down due to quarantine orders. But the opening was cut short as many businesses across different states are once again being forced to close down their stores, this time because of the looting and destruction, according to an article from the Washington Post.

The problem is that these small to medium businesses are already hit hard by the pandemic and the civil unrest is making it worse for them. This could result in more business closures and permanent job losses.

Numerous financial experts have said that the looting and destruction will have a negative impact on the markets and could derail the economic recovery. One of the main issues is that these protests are sparking concerns of a second wave of infection. With many people gathered together and not practicing safe protocols, it’s not hard to imagine the Covid-19 virus could spread rapidly again.  Experts just don’t know if the coronavirus will re-emerge in a wave in October, similar to the Spanish Flu pandemic of 1918, or if it will slow smolder, ever-increasing for years to come.  Without a doubt, however, the continued effects will drain and transform the economy.  Many state governments are already reeling from the effects of the Coronavirus pandemic and the continued protests could push them further into the red. This could result in numerous government job losses, further worsening the country’s unemployment situation. Our country’s economy is in a very fragile state right now starting with the trade war with China and then the Coronavirus pandemic. Though there are some signs of a slight recovery and some government efforts working, that could all be for naught if civil unrest continues to be a problem.

Conclusion

The Coronavirus pandemic has not only impacted our country’s healthcare system and our way of life but it also severely affected our economy. The Federal Government’s “stay-at-home” orders as a way to try and limit the spread of the virus had a severe effect on the economy. This caused the economy to grind to a near halt, which resulted in many businesses closing permanently and millions of job losses.

This caused concerns that the country is heading towards financial collapse. We’ve looked at several indicators to see if this is the case and it, unfortunately, paints a horrible outcome. Only the stock market is not showing signs that a collapse is imminent but that is mainly because of the government’s policies, which makes investors confident about the market, and the Fed is running out of tools to keep the market throttled open. We would like to stress that you should not just wait for things to become better. To prepare for the possibility of an economic collapse, you need to be more self-reliant and be more active with your finances. Even if the stock market is staying afloat, consider also investing in precious metals, especially if you have the extra money for it as a means to shelter your finances. They will likely have more value if a collapse does happen.

Though it does paint a gloomy picture, this doesn’t mean that a collapse is a foregone conclusion. Things could still turn around and become better again. Sales and purchases could still rebound with a vengeance, civil unrest could subside quicker than expected, and Americans could adjust to a new normal of living with Coronavirus. If these things happen, our economy will likely bounce back and could even find itself better than before with increased spending and more people purchasing big-ticket items that they held off on during disastrous times.  What do you think will happen?  We would love to hear what you think is going to happen based upon my reading of these indicators.  Please leave your opinion in the comments below.  We do read many of the comments and respond to them when we are able to–usually within the first hour of releasing the blog.

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