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Which is worse: Inflation or Recession?

Which is worse: Inflation or Recession?

August 10, 2022
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Welcome to August.  Time for the annual Rundahl family camping trip.  This year our truck is taking us to Chippewa Falls, WI.  We start our 300-mile drive northward, pulling a trailer loaded with everything that 18 people would need for a week in the woods:  tents, pots and pans, a full-size refrigerator, and the kitchen sink.  I am not joking.  As we make our way onto the interstate, I look down to notice something that many of us may be struggling with these days, the 9 miles per gallon that I am getting on the truck while pulling the week’s needed supplies.  Needless to say, we will be stopping for gas at least one time on this trip. 

During these times, we hate to disengage from the small enjoyments that we have, but we can’t forget the absolute requirements.  Over the last few months, we have been reminded of a couple of economic terms….and generally, they have a big impact on our pocketbook.  Inflation and Recession. 

Let’s break it down: 

Inflation:

In simple terms, inflation occurs when the prices of goods and services rise.  This becomes difficult for people because the same amount of money does not go as far as it did before.  When prices are rising in an inflationary environment, your earnings or salary may not be rising in a similar pace.  Short version, your same money buys less things.

Now inflation, is broken down by three historic categories: 

  1. Demand-Pull Inflation
  2. Cost-Push Inflation
  3. Built-In Inflation       

         

They differ in many ways, however, when it comes to the swipe of your debit card, they affect your money the same way.  The environment that we find ourselves in is quite unique in nature.

Cost-Push has to do with input costs driving prices up.  (Think of the price to build a house by the increased current cost of a 2x4 board.) 

Demand-Pull is what it sounds like; demand for materials and products is driving price up.  (This happens every time Apple comes out with a new phone.) 

Built-In inflation is a result of both driving more money into the system, therefore, prices will rise because there are assumptions that people have more money.  ($5.4 trillion from the government stimuli during the pandemic will do this.)     


Recession:

Okay, now a recession is a little different.  In past years, we have seen examples of recessions.  Our most recent examples, the 18-month period of the COVID pandemic and the 2008 Housing Bubble market collapse.  By definition, a recession is a business cycle contraction where this is a general reduction in economic activity or spending.  Triggering events include times of financial crisis:  9/11, an increased lack of supply, or a stock market shock (like that caused recently by Redit and Robinhood with private investors in relation to Gamestop stock).  Another definition would be 2 consecutive quarters of decline in the country’s gross domestic product (GDP). 

Generally during a recession, you see the government hoist up the economy by stimulating money into the system (in 2008 and 2009, stimulus checks and various bailouts). 

Back to original question, which is worse?  An analyst for Moody’s Analytics recently was quoted when asked this question as saying, “It’s like saying:  Which is worse – a kidney stone or appendicitis?”  The Fed Chair Jerome Powell said in late July after the central bank approved yet another three-quarters point rate increase, “We’re not trying to have a recession, but the path to avoid one has clearly narrowed.”

The fact of the matter is both aren’t good.  Inflation affects everyone, whereas only some people lose their job in a recession.  While it’s terrible if anyone loses their job, the effect is not as broad-based as it is with inflation. 


So, how does one prepare for this “car accident?”  In both cases, the answer is similar: 

  1. Keep and maintain an appropriate emergency fund - whether it is reduction of income from a recession or lost value on your dollar due to inflation, having accessible liquid money is invaluable
  2. Don’t overleverage yourself on your investments – using the stock market to grow you wealth long term is a good idea, but relying om the long term trend of positive stock market growth to provide your daily paycheck is very risky
  3. Live within your means – increasing your spending during these times will only multiply the challenge
  4. Understand that not everyone is affected the same during these times – in both economic cycles, some businesses and some people flourish and some struggle, those that thrive recognize the need to be flexible and innovative
  5. Employ the assistance of professionals that can help – A good financial advisor with enough experience will recognize the cycles and trends that can help you through these times.

Let us know if we can be of assistance.  We would be happy to help you and those you care about through these times.