Readers Question: Which Financial Institutions are most exposed to a recession in the UK?
A recession in the UK could hit several financial institutions quite hard. This is because of the nature of the current economic downturn which is likely to be focused around the previously booming housing market and service sector. In the 1981 recession, it was mainly manufacturing which suffered from high-interest rates and high exchange rates. But, in a future recession, the service sector could be much more affected.
Institutions affected by a recession
Banks. Major banks tend to survive recessions because they have sufficient assets and savings to survive a downturn. However, a recession is likely to cause a rise in bankruptcies, mortgage defaults and loan defaults. Therefore, UK banks would have to write off a lot of bad debts as a result, bank profitability is likely to fall during a recession
Investment banks. Investment banks are more likely to be affected by a recession than a standard commercial bank. Investment banks don’t take household savings but focus on investing in companies for investors who are more willing to take a risk. In a recession, companies are more likely to go out of business and so this will hit the profits and capital gains of investment banks.
Estate Agents. If the UK experiences a recession, it is likely to cause a significant fall in house prices. This would affect firms related to the housing sector. Estate agents would see a lower turnover of houses and make smaller commissions on declining house prices. Homebuilding firms would probably suffer from a decline in orders. The housing market is highly cyclical and in recession, turnover and prices fall.
Share Prices and Shareholders Typically a recession would be bad for share prices and shareholders. A recession means lower profits or even bankruptcies. Therefore, ceteris paribus a recession will cause falls in share prices. Falling profits would lead to lower dividends for shareholders. There would also be a fall in profits from share dealing and a decline in some of the ‘bonus payments’ that have characterised in recent years.
It is possible to share prices fall in anticipation of a recession. Therefore in the actual recession – it wouldn’t cause a significant further fall in share prices. This is because an economic slowdown has already been built into the lower share prices. Share prices can even rise in a recession – in anticipation of recovery.
Who Wouldn’t Much suffer from a recession?
- Insurance firms. During a recession, people will keep paying insurance payments.
- Economists (we can always give various theories for why we are in a recession)
Depends on the nature of the recession
The impact of a recession on financial firms depends on the nature of the recession. For example, in the 1981 recession, the impact was mostly felt by the manufacturing sector and exporters, the financial sector were not affected so badly. However, the 2008/09 recession was caused by financial instability and the global credit crunch. It was a recession that badly hit financial institutions and some – such as Lehman Brother went out of business. Other banks needed a government bailout.