How to Survive a Recession

LESSON 20: Buy Foreign Currencies or Assets

When a recession hits your country it pays to invest your money in other countries with greater economic strength. In today's international markets, investment money moves around the globe like water, flowing from one place to another as investors seek the greatest reward for the least risk. When a country's economy goes into recession, its currency drops in value versus other currencies, all else being equal. As a citizen of a country in recession, You can keep your money in your country's domestic currency or invest it in other countries where you can get a higher return.

One of the effects of a slowing national economy is reduced government tax revenues. Governments are funded by tax revenues. With fewer jobs paying lower salaries, personal income tax revenue falls. With fewer business transactions, sales and VAT taxes fall. Fewer luxury goods are purchased, leading to lower luxury tax revenues. All of this reduces the incoming tax revenues of a country in recession. The country's cash flow turns negative, and its debt-equity and debt-income ratios worsen. This makes it less likely that it will repay its debt to foreign lenders making foreigners less likely to invest.

To combat economic recessions central economic authorities typically increase the money supply by “printing money” to stimulate the economy. Increased money supply shifts the supply-demand equation toward inflation, which means fewer goods can be purchased with the same amount of currency. The nation’s currency becomes less valuable compared to other currencies where the economic fundamentals are stronger. Increasing the money supply reduces the value of each note and devalues the currency. This causes foreign investors to shift their assets into a healthier countries. Deteriorating fundamentals lead fewer investors to want to hold bonds and assets denominated in the ailing nation’s currency. Hyper-inflation, such as occurred in Latin American and the U.S. during the 1970’s and 1980’s, can cause a precipitous drop in a country’s currency value in a very short time.

As an example, if Canada goes into recession but Japan’s economy is growing, given a choice investors will sell Canadian Dollar-denominated assets and buy Japanese Yen-denominated assets. These assets may be physical (real estate, lumber) or intangible (stocks, bonds). Or they will simply sell Canadian Dollars and buy Japanese Yen. Recessions cause the transfer of huge amounts of capital from nations in recession (here Canada) to nations with greater economic health (here Japan).

You can profit from these relative economic changes by buying foreign currencies or assets. In the case above, you could buy Japanese Yen if you are invested in Canadian Dollars. Or you can buy assets such as stocks, bonds, or real estate denominated in Japanese Yen. The emergence of Exchange-Traded Funds (ETFs) has made this as easy as buying any stock in your brokerage account. You simply buy an ETF which invests in your country of choice, and the fund manager invests your money overseas for you in a wide variety of assets which achieves both growth and diversification.