Are We Headed for Another Great Depression?

Post-Pandemic Arguments for and Against an Economic Downfall

During the Great Depression, People Lost Their Homes and Lived in Tents. Could That Happen in the U.S. Again?
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 Dorothea Lange / National Archives

During the COVID-19 pandemic of 2020, the U.S. economy suffered from intermittent lockdowns, business regulations, widespread unemployment, travel and trade restrictions, and international market fluctuations (not to mention social and political unrest). Gross domestic product saw its first fall since the recession of 2007-2009 by a massive 3.5%—the largest single drop since 1947—and consumer spending fell to its lowest rate since the Great Depression.

With an economic downturn of that scale, your life would change dramatically. One out of every four people you know would lose their job. Economic output would plummet. International trade would shrink drastically.

In the wake of the COVID-19 pandemic, could it happen again? Some consumers fear another recession, or worse. Most experts, however, foresee a less drastic outcome. Here are a few reasons why that fear persists, as well as some reasons why it may be proven wrong.

Key Takeaways

  • Structural unemployment, volatile oil prices, and fickle stock markets contribute to the belief that a second Great Depression is imminent.
  • Lockdown restrictions and work-from-home culture is forging a housing market reminiscent of the bubble that caused the 2007-2008 recession.
  • Economic growth hinges on the health of small businesses, including the ability to adapt to remote work.
  • Climate change poses a substantial threat to the global economy.
  • The pandemic has disparate effects on different industries and populations, but there are measures you can take to protect yourself financially.

Concerning Economic Signs

The circumstances that produce a depression are far more complex than a simple designation by facts and figures. Some warning signs of a sinking economy include declining consumer confidence, rapid inflation, decreased employment, declines in GDP, dips in the stock market, and shifting interest rates, among others. The U.S. saw many of these signs in 2020 and 2021. Additionally, the unique nature of the pandemic brought its own set of unprecedented economic concerns.

Unemployment

In the initial months of the pandemic, the rate of unemployment increased sharply, reaching a height of 14.8% in April 2020. Surprisingly, as the pandemic dragged on, this figure fell, landing at 6.2% as of February 2021, but experts theorize that statistics may reflect a different reality than the percentage of the population that is actually working. Thousands of discouraged workers gave up looking for work and were no longer counted in the unemployed numbers, driving the labor participation rate down.

A more accurate measure of the effect of the pandemic on unemployment may be found in the nature of the unemployed population, and in long-term trends. Since April 2020, the rate of long-term unemployment has seen a dramatic rise. As of February 2021, almost 42% of the unemployed have been looking for work for six months or more, a mass threatening to reach the previous peak of 45.5% in 2010.

The CARES Act Stimulus Payments

To counteract the effects of widespread unemployment, Congress passed the CARES Act, which included financial assistance in the form of direct payouts to the majority of Americans. The cash flood aimed to boost spending, yet some critics warned of the potential for inflation.

Stock Market Volatility

Financial losses during the 2008 stock market crash were devastating. The Dow dropped 53% from its high of 14,043 in October 2007 to 6,594.44 in March 2009. It dropped 777 points during intra-day trading on September 29, 2008—at the time, its largest one-day drop ever. Investors who lost money are understandably still spooked by that experience, and more extreme volatility in the market in 2020 has only reignited that fear.

2020 saw two of the top five largest one-day daily percentage losses in the history of the Dow. By comparison, the worst percentage drop during the 2007-2008 crisis came in 11th on the list. On March 16, 2020, the Dow plummeted nearly 3,000 points, shattering all previous point-loss records.

The Dow has been trending upward since, reaching a valuation of 32,862.21 in March 2021, but with such recent volatility it may be too early for investors to feel secure.

Oil Prices

Oil prices have also been volatile. They rose to $50 a barrel after plummeting to a 13-year low of $26.55 per barrel in January 2016. That was just 18 months after a high of $100.26 per barrel in June 2014.

The onset of the pandemic had a dramatic impact on the price of oil. An increase in supply from U.S. shale oil producers combined with the strength of the U.S. dollar pushed prices way down. For a short span in April 2020, the price of a barrel fell into negative numbers, essentially meaning it was worth less than the cost to purchase, ship, and store it—a reality that flummoxed many. The price has since increased again, reaching heights of $66 a barrel in March 2021. Forecasts suggest that oil prices could surge to $100 per barrel at some point in 2021.

A Confused Housing Market

In a trend seemingly inconsistent with other economic indicators, the housing market during the pandemic fared well; sales went up, values increased, and foreclosure rates decreased. Perhaps the relative stability of the housing market during the pandemic shouldn't be surprising, as most people were spending more time at home and saving money that might otherwise be spent on travel, retail, or entertainment. Also, as interest rates dipped to record-breaking lows, mortgage loans and refinancing opportunities became much more appealing.

However, skeptics recall the 2008 subprime mortgage crisis, when a housing bubble was sharply followed by a bust, and then a collapse. Many homeowners were upside-down in their mortgages, unable to sell their homes or refinance. The housing collapse was caused by mortgage financing reliant upon mortgage-backed securities. After 2008, banks stopped purchasing them on the secondary market. As a result, 90% of all mortgages were guaranteed by Fannie Mae or Freddie Mac. The government took ownership, but banks still aren't lending without Fannie or Freddie guarantees.

In effect, the federal government is still supporting the U.S. housing market. Mortgage rates are on a slight increase in 2021, so whether the housing market levels out or bursts is yet to be seen.

Foreclosures Pending

As part of the CARES Act, Congress protected homeowners with a temporary moratorium on foreclosures. The protections extend through June of 2021, and some experts fear that once these protections are lifted, the country might see a foreclosure boom.

Tentative Business Growth

After the 2008 recession, business credit froze up. Demand for any asset-backed commercial paper disappeared. The panic over the value of these commercialized debt obligations led to the financial sector's crisis, causing the Federal Reserve and the Treasury to intervene. The governments of the world stepped in to provide all the liquidity for frozen credit markets. U.S. debt was downgraded. Europe wasn’t much better. Even worse, all that addition to the money supply never found its way into the regular economy. Banks sat on cash, unwilling to lend. They eventually paid back the $700 billion bailout.

During the pandemic, similar patterns caused business to suffer severely, with about 23% of small business owners claiming an overall loss in 2020.

5 Reasons Why the Depression Could Recur

Taking into account the factors listed above, there are a few main reasons why the United States could see another depression.

  • Stock market crashes can wipe out investors' life savings and destroy the confidence required to get the economy going again. Crashes also make it difficult for companies to raise the needed funds to grow. Extreme market volatility in 2020, and its effect on investor confidence into 2021, suggests that this remains an ongoing concern.
  • High oil prices could continue to spike, which impacts everything from car sales to inflation to global market volatility.
  • With banks still digesting the losses of the 2007-2008 subprime mortgage crisis, and the potential increase in foreclosures once the CARES moratorium is lifted, banks may continue to hoard cash in spite of a growing housing market.
  • Small businesses are in recovery mode, and their ongoing viability is highly dependent on government assistance and stimulus programs. Without reliable credit, small businesses can't grow, stifling the roughly 47% of jobs that they provide.
  • Deflation is a looming threat. These deflationary pressures seem like a boon to consumers, but they make it difficult for businesses to raise wages. The jury is still out on whether the CARES stimulus checks will lead to inflation, which goes hand in hand with the value of the U.S. dollar in the global marketplace.

What About Climate Change?

There is a long-term threat that could cause another Great Depression, which is the worsening peril from climate change. According to a 2018 study by Stanford University Department of Earth System Science researchers, if the world's nations adhered to the Paris Climate Agreement, and temperatures only rose 2.5%, then the global gross domestic product would fall 15%. If nothing is done, temperatures will rise by four degrees Celsius by 2100. Global GDP would decline by more than 30% from 2010 levels, which would be worse than the Great Depression, when global trade fell 25%. The major difference this time around is that it would be permanent.

In addition, failure to adhere to international policy agreements or EPA standards could impose sanctions which may fall heavily on certain industries, such as fishing, fossil fuels, manufacturing, etc. Meteorological impacts have the potential to create widespread destruction, pulling massive government resources. In 2021 the U.S. spent an estimated $1 billion on 22 weather disasters linked to climate change.

The Paris Climate Agreement

In 2019, the Trump administration refuted the worldwide effort to reduce carbon emissions by formally withdrawing from the Paris Climate Agreement. In 2021 the Biden administration promptly rejoined, yet the reputational harm to the U.S. may have ripple effects on diplomacy and international trade.

5 Reasons Why the Depression Won't Recur

There are also plenty of reasons to believe that we are not in danger of seeing a depression anytime soon.

  • Housing prices and foreclosures have recovered. Rental rates are relatively high, which has brought investors back to the housing market. With restored confidence, housing prices continue to rise. After median sales prices dropped to a low of $208,400 in the first quarter of 2009, they reached $346,800 in the fourth quarter of 2020.
  • Business credit has been affected, but due to the international scale of the pandemic, and the increasingly globalized marketplace, the world's central banks have pumped in much of the liquidity needed.
  • In 2021, with vaccinations increasing, stay-at-home restrictions being lifted, and businesses reopening, more small business owners are confident that they will recover from the setbacks incurred during 2020.
  • Unlike the contractionary monetary policies that caused the Great Depression, current monetary policy is expansionary. The FDIC helps prevent bank runs by insuring deposits.
  • Economic output fell 4% from its high of $14.4 trillion in the second quarter of 2008 to its low of $13.9 trillion a year later. As of the last available count in the fourth quarter of 2020, it has recovered to almost $22 trillion.

How to Protect Yourself From a Depression

As the country starts to recover from the effects of the pandemic, so will the economy. Your lifestyle may have changed, and your personal finances may be in recovery mode, but there are tried and true principles that can help you dig out of a hole and prepare for potential tough times in the future.

  • Practice budgeting: increase your income and reduce your spending.
  • If you have a surplus, reduce your debt.
  • Make sure you have a savings cushion, and then build more. The best investment is still a diversified portfolio.
  • If you need to borrow money, be minimal, be mindful of good debt vs. bad debt, and seek out low interest rates.
  • Only buy a house you can easily afford; mortgage aside, downsizing has ripple effects on your overall spending.

Ultimately, the economy is always susceptible to uncertainty, and now more than ever due to climate change. The best way to prepare is to secure resources and remain flexible.