Although the initial outbreak of COVID-19 in March 2020 sent a shockwave through the markets and economy, another recent near-collapse of the U.S. economy happened on September 16, 2008. This is the day the Reserve Primary Fund “broke the buck”—the value of the fund’s holdings dropped below $1 per share.
Panicked investors withdrew billions from money market accounts where businesses keep cash to fund day-to-day operations. If withdrawals had gone on for even a week, and if the Fed and the U.S. government had not stepped in to shore up the financial sector, the entire economy would likely have ground to a halt. Trucks would have stopped rolling, grocery stores would have run out of food, and businesses would have been forced to shut down.
Will the US Economy Collapse?
A U.S. economic collapse is unlikely. When necessary, the government can act quickly to avoid a total collapse.
For example, the Federal Reserve can use its contractionary monetary tools to tame hyperinflation, or it can work with the Treasury to provide liquidity, as during the 2008 financial crisis and COVID-19 pandemic. The Federal Deposit Insurance Corporation insures banks, so there is little chance of a banking collapse similar to that in the 1930s.
The president can release Strategic Oil Reserves to offset an oil embargo. Homeland Security can address a cyber threat. The U.S. military can respond to a terrorist attack, transportation stoppage, or rioting and civic unrest. In other words, the federal government has many tools and resources to prevent an economic collapse.
What Would Happen If the US Economy Were To Collapse?
If the U.S. economy were to collapse, you would likely lose access to credit. Banks would close. Demand would outstrip supply of food, gas, and other necessities. If the collapse affected local governments and utilities, then water and electricity might no longer be available.
A U.S. economic collapse would create global panic. Demand for the dollar and U.S. Treasurys would plummet. Interest rates would skyrocket. Investors would rush to other currencies, such as the yuan, euro, or even gold. It would create not just inflation, but hyperinflation, as the dollar would lose value to other currencies.
If you want to understand what life would look like during an economic collapse, think back to the Great Depression. The stock market crashed on Black Thursday. By the following Tuesday, it was down 25%. Many investors lost their life savings that weekend.
By 1932, one out of four Americans was unemployed. Wages for those who still had jobs fell precipitously—manufacturing wages dropped 32% from 1929 to 1932. U.S. gross domestic product was cut nearly in half. Thousands of farmers and other unemployed workers moved to California and elsewhere in search of work. Two-and-a-half million people left the Midwestern Dust Bowl states. The Dow Jones Industrial Average didn't rebound to its pre-Crash level until 1954.
Collapse Versus Crisis
An economic crisis is not the same as an economic collapse. As painful as it was, the 2008 financial crisis was not a collapse. Millions of people lost jobs and homes, but basic services were still provided.
Other past financial crises seemed like a collapse at the time, but are barely remembered now.
The OPEC oil embargo and President Richard Nixon’s abolishment of the gold standard triggered double-digit inflation. The government responded to this economic downturn by freezing wages and labor rates to curb inflation. The result was a high unemployment rate. Businesses, hampered by low prices, could not afford to keep workers at unprofitable wage rates.
In 1981, the Fed raised interest rates in a bid to end double-digit inflation. That created the worst recession since the Great Depression. President Ronald Reagan cut taxes and increased government spending to end it.
1989 Savings and Loan Crisis
One thousand banks closed after improper real estate investments turned sour. Charles Keating and other Savings & Loan bankers had mis-used bank depositor’s funds. The consequent recession triggered an unemployment rate as high as 7.5%. The government was forced to bail out some banks to the tune of $124 billion.
The terrorist attacks on September 11, 2001, sowed nationwide apprehension and prolonged the 2001 recession—and unemployment of greater than 10%—through 2003. The United States’ response, the War on Terror, has cost the nation $6.4 trillion and counting.
2008 Financial Crisis
The early warning signs of the 2008 Financial Crisis were rapidly falling housing prices and increasing mortgage defaults in 2006. Left untended, the resulting subprime mortgage crisis, which panicked investors and led to massive bank withdrawals, spread like wildfire across the financial community. The U.S. government had no choice but to bail out “too big to fail” banks and insurance companies, like Bear Stearns and AIG, or face both national and global financial catastrophes.
March 2020: COVID-19 Pandemic
It is too soon to tally up the total costs of the COVID-19 pandemic—the crisis is still ongoing, although with far less intensity than in the early days.
How much economic cost should we expect? One estimate, from IMF Managing Director Kristalina Georgieva, proposed the global economy will lose $28 trillion in economic output from 2020 to 2025. As the U.S. economy seeks to recover from the challenges brought about by the pandemic, including heightened inflation, supply-chain disruptions, and labor market turmoil, government action will be a vital tool in moving forward.
Frequently Asked Questions (FAQs)
How can I prepare for an economic collapse?
A true economic collapse won't happen, because measures would be taken by the U.S. government to avoid one just as it has done in the past. Still, you can prepare for a financial crisis by ensuring your debt is low, living within your means, and having money in savings that you can have fast access to if you need it. While no investment portfolio is recession-proof, you can talk to your financial advisor about minimizing risk with your investments.
Are any countries in danger of an economy collapse?
The International Monetary Fund recently warned that some poor nations (including Ethiopia, Kenya, Zambia, Afghanistan, Haiti, Samoa, and Tonga) could be in danger of financial collapse unless the countries they owe money to continue to offer debt relief.
Can any good come from an economic collapse?
While it's hard to see any silver lining in a total collapse, some benefits have been seen in past recessions. During the Great Depression, for example, life expectancies actually increased. The cost of housing may go down, enabling some people to buy a home that they may not have been able to afford before, and companies selling cheap entertainment can prosper.