Fasten your seat belts. The economic downturn is about to arrive, and it’s important to be aware of both the nature of the adversary, and the best way to turn threats into opportunities.
We live in times that are interesting… perhaps too interesting. In the last ten years, we have navigated one of the worst financial crises of our history, the European rescue of the Spanish bank during the construction company debacle, the breaking out of an unprecedented pandemic that led to a crisis, and an even more unprecedented EU recovery program, a war that threatens to return Europe to the Cold War, and, finally, inflation so high that it has surpassed the maximum level of the last three decades.
Now, the next bend in the road is “recession”, and it has already attracted sufficient attention as to become a term that, in August, had almost 16 million hits on Google. But what exactly is this phenomenon, where does it originate, and why is it considered imminent?
The coming economic slump: causes and consequences
Fewer and fewer experts are discussing the possibility of recession. Nowadays, more often, what they are discussing is exactly when it will arrive, and how intense the impact will be on our lives.
Economists use the word recession when there are two consecutive quarters of negative GDP growth. This means, fundamentally, that:
- homes and business become poorer
- redundancies increase, along with families’ fears of being made redundant
- disposable income decreases, and uncertainty puts a dampener on consumption. As a consequence, businesses experience a fall in demand
- businesses also reduce their investments, and review the extent of their debt, which they now consider excessive
- the size of the workforce, payroll and production costs are also under review. Businesses ask themselves how they can spend less
- managers study withdrawal from or repositioning within less profitable markets
- the valuation of listed companies is reduced, closing off another cheap financing route for them
First of all, you need to understand that the next recession has four main origins. They are:
1. The ‘new severity’ of monetary policy
Taking out a mortgage, or applying for credit or a loan is, and will be, infinitely more expensive due to the rise in interest rates and the withdrawal of monetary stimulus programs. Consumption, investment and economic growth will slow down as a consequence.
2. Rise in inflation
Raised, persistent inflation (driven by recovery plans, cheap financing of central banks, the energy crisis, which is fueled by the invasion of Ukraine, and the supply chain crisis) will mean than the population is poorer. And we will all consume and invest less.
3. Support has ended
The major stimulus plans have achieved their mission of helping us in the recovery. This includes both the huge public spending items (for example, European NextGen funds, or their counterparts in China or the United States) as well as monetary stimulus programs (particularly from the ECB and the Federal Reserve) to keep interest rates low and facilitate the financing of individuals or businesses through credit or fixed income.
Without a doubt, the central banks are soon going to completely withdraw the monetary stimulus measures, and the Government stimulus programs have been implemented, for the most part. In other words, we now have to learn to walk without support, on a surface that has been made slippery by the recession.
4. States are barely able to react
The enormity of the debt that States took on during the pandemic, together with the debt they had already accumulated, means that they now have fewer resources to soften or neutralize the coming recession. This is quite clearly noticeable in the most indebted States on the planet, such as Japan, Greece, Portugal or Italy.
Taking on excessive debt makes it difficult to react to a recession, for two reasons:
- less resources can be dedicated to containing the crisis, because creditors need to be paid off first
- creditors trust us less and raise the cost of debt for us, because they know that it will now be more difficult for us to pay it off
However, debt is not the only reason that States’ capacity to react is reduced. There are other factors, such as the French-German division, which is preventing the European Union from making swift decisions on replacing Russian gas with Algerian gas, or the fact that the countries that manufacture essential products (microchips, etc.) seem to be incapable of multiplying their production in the short term to resolve the supply chain crisis.
Who will the recession affect the most?
Generally, those who are most affected by economic contractions are the most vulnerable individuals and businesses. In this case, in particular, those who depend most on:
- strong short-term growth just to continue working, recover jobs or maintain their activity
- very cheap bank financing to pay off their debts and loans and take out new ones, which they desperately need
- energy, which they were already struggling to pay for, to retain their competitiveness, or heat or cool their homes and facilities
- consumption of very basic raw materials or products (food, hygiene, cleaning), which they have been obliged to reduce due to crazy prices
The business that suffer most in recessions are often those that belong to sectors that are closely linked to consumption that is easily expendable. Here, hospitality, tourism and distribution (stores, malls) deserve a special mention. In this recession, due to the energy crisis that has catapulted the costs of electricity and fuel, industry will also be one of those hardest hit.
The countries that are making the headlines as a result of the impact of the imminent recession are those major developed economies in Europe and North America. However, according to the World Bank, they will not be the ones that are most affected. Those that will probably suffer a greater impact are emerging nations, because:
- they attract very high inflation before they have even recovered from the crisis of the pandemic
- their central banks and anti-inflation policies are less credible
- they receive the full impact of what the central banks of the major powers are doing
- they have less budgetary margin to support struggling businesses
Calm leadership: how to lead a business in times of crisis
Economic crises, or, at the very least, increasingly choppy economic waters, shape and identify those individuals who are capable of taking the helm of a business. You run out of easy decisions before you start, and the difficult decisions just keep multiplying. We know that we have a true leader when a manager:
- clearly explains the challenges and sacrifices that their team will have to deal with, together, in the face of an imminent recession
- takes on the majority of the responsibility for painful measures (cuts to the workforce, salary freezes, etc.) which they are going to have to implement
- is optimistic, and they pass on their optimism with data to back it up, celebrating their team’s successes and sharing the first signs of recovery with their members
- recognizes that they don’t know what they don’t know and redoubles confidence in the ability of their team (doesn’t close themselves off) in the middle of the storm
- is the source of stability, perspective and calm for others. Knows how to pass on their resilience
Managers want to be the source of serenity and perspective for their teams in the middle of the storm, but it is even better, of course, if they can also bring that same mindset to their companies.
How to prepare a company for ‘lean times’
The award-winning tennis player Rafa Nadal often says that you need to train when you’re having a really bad day, because it strongly resembles what you will feel in a difficult game. And you can do the same with recessions before they occur, by following these tips:
1. Save more than you had planned for
This is an ideal way to learn to live with less resources, before circumstances force you to do so. A change in culture is essential, with austerity and efficiency becoming the rule, and not a special short-term project.
In order to do so, it is important that:
- the leader leads by example and practices what they preach
- the inertia of “this is the way it has always been done” is avoided in justifying a process. The key is efficiency
- identifying the main sources of costs and planning for the new austerity in a realistic and ambitious manner
- analyzing whether proposed objectives are being achieved and making necessary adjustments if they are not
2. Stay calm when faced with news of a crisis
Bad forecasts feed pessimism, and cause you to put yourself in the worst case scenario. It is best to stay calm, not let your imagination run away with you, and take it step by step.
The best way to stay calm is:
- to have identified different scenarios and budgets in advance, and apply the necessary measures as their requirements are met
- to not reject the flexibility that means adapting to unexpected circumstances
- and to be very transparent with the team and the workforce in relation to the company’s situation and necessary sacrifices
3. Identify essential expenditure
Your children’s school and university, your home’s mortgage payments – these are a series of items that you cannot do without, and that you must protect, even if you have to do without other important expenditures or assets. So, the essential expenditures for a business may be:
- the main levers of growth and competitive advantage
- the levers that guarantee positioning in preferential markets
- the investments which, if not made, may seriously harm the company’s reputation (an example: a bank will not allow the lack of investment to call its financial stability or the security of its customers’ savings into question)
4. Don’t lose sight of the long term
Recessions invite people to unwind investments and save as much as possible, but lean times don’t last forever. In the same way as we plan for retirement, a company cannot fail to pay attention to:
- investigation and development of new products that will guarantee competitiveness in the future
- gradual reduction and re-financing of debt without destabilizing corporate finances
- identification of new markets and segments as sources of income
5. Take care of things other than finances
Economic contractions are the moment in which many people tend to obsess over finances and forget everything else. And this is a mistake, because a manager can never forget the importance of aspects such as:
- attracting and training the talent they need to ride out the crisis and accelerate recovery
- motivating teams, so that they don’t fall into passivity and pessimism
- the company’s proximity and commitment to a customer, a society and suppliers that are also suffering in the recession
As you can see, a company is much more than its finances, just as a manager is much more than their management of the budget. In this way, we need to learn to downplay the difficulties that we encounter, continue to trust our own strength, and not stop smiling in the mirror, wherever possible. There are opportunities in crises, and there are good moments in recessions. And we are going to take advantage of them.
