Prepare to ride out this storm

GOVERNOR of the Bank of England Mervyn King last week became the first high-profile public figure to admit that the economy was headed for the rocks and families should brace themselves for rising unemployment, falling house prices and the prospect of a recession.

At best the economy will slow, and King warned the good times were over. So what could recession mean for you and your family?

Scotland on Sunday takes you behind the baffling economic forecasts, charts and double speak and spells out what you must do to survive.

What is a recession?

It is when all the things that make up an economy, such as business orders, consumer spending and wages, rather than improving, go into reverse. The boffins call it technically two quarters of negative growth. It happened in 1980 and 1981, and again in the early 1990s.

Should I be afraid?

That depends on what you do for a living, what kind of property you live in and whether you have big debts or big savings.

What happened last time?

In the run-up to a recession, unemployment tends to climb, wages fall behind price increases and house prices tumble. In the early 1980s, for example, unemployment grew from 1.1 million in 1979 to 2.8 million by 1983.

High levels of inflation masked falling house prices, which appeared to climb by 5.2% in 1981 and by 2.5% in 1982. However, with inflation roaring away at 11.9% and 8.6%, this means house prices actually fell by 6.7% the first year and 6.1% the second year.

Similarly, unemployment climbed from 1.6 million in 1990 to 2.9 million in 1993, and average UK house prices fell in 1990 by 1.3%, in 1991 by 1.4%, 1992 by 3.8% and 1993 by 2.5%.

The falls were even more marked when inflation was added into the equation, collapsing 10.8% in 1990, 7.3% in 1991, 7.5% in 1992 and 4.1% in 1993.

Is this time different?

Yes, in many ways. Prime Minister Gordon Brown argues that we are better equipped to cope because the economy has enjoyed uninterrupted growth for 15 years, and unemployment and interest rates are much lower. There is some truth in this.

On the other hand, we are much more indebted than in previous downturns. Furthermore, anyone under 40 has no experience of recession and therefore no planning for one in their budgets. When the economy regularly lurched from boom to bust, those who worked in sectors likely to be affected planned for the lean years when they knew their work would dry up; for example, by paying off their mortgage as soon as possible.

Another worry is that there is significantly less support available to anyone whose mortgage runs into trouble. If you lose your job and need to claim assistance from the Government you will get no help at all towards your mortgage for nine months, and only up to £100,000 when it does kick in.

During the last recession, half your mortgage interest was paid with your first unemployment claim, and after 16 weeks the state picked up the entire bill with no ceiling.

A final big unknown is what will happen to the buy-to-let market. If prices do begin to fall sharply, and banks foreclose on loans which cannot be met, this could lead to a huge surge of property on the market and even heavier price discounting.

How long will it last?

King predicts that inflation will not be under control until 2010, so is ruling out sharp cuts in interest rates until then. The expectation is that it will take two years for the excesses of the previous 15 to work their way through the system.

Will I lose my job?

Unemployment is expected to rise, with some sectors more severely hit than others. Anyone working for firms serving the housing market faces a rough time. Hundreds of estate agents have already been sacked, but mortgage advisers, furniture removers, builders, plumbers, electricians, and kitchen, bathroom and extension specialists are also at risk.

Even those who don't lose their jobs may find their pay packets shredded. Estate agents and some mortgage advisers, for example, are largely remunerated by commission. Their income will fall sharply.

As wages are clawed back, other retailers will be affected, with staff reductions up and down the high street. Currys has already announced it is slashing its branch network. People will eat out less, buy fewer takeaway coffees and take fewer taxis.

Finally, with banks and investment houses catching a cold from the credit crunch, jobs in the financial sector will go.

Can I insure against job loss?

Yes, but take care. Unless you are taking out a new mortgage, many insurers will not pay out within six months of the policy beginning. They will not cough up if you had wind of redundancy when signing the contract, or if you work in a sector likely to be hit by recession.

Will I be safe if I keep my job?

Safe from redundancy, yes. However, expect your income to be squeezed. Bonuses and overtime will be cut or disappear completely. And any pay increase is likely to lag the rising cost of living.

Will house prices fall again?

Westminster housing minister Caroline Flint expects them to. She told ministers last week that a 10% slide in UK house prices was the least damage heading in property owners' direction. Mervyn King also warned of further property price falls on top of those that have already hit some regions.

Many commentators expect Scotland to sidestep a house price crash because values are lower and more affordable as a multiple of local income than in England. Nevertheless, it seems likely that, as with previous recessions, Scotland may experience some slide in values. As before, these may be more muted than elsewhere in the UK.

However, over recent years the Scottish market has come to mirror that south of the border. Homeownership had lagged the rest of the UK, but has grown sharply over the past five years to 66%, virtually catching up with the 70% elsewhere in Britain.

Prices too have soared in many Scottish locations and are still bubbling away. This begs the question of whether in time they will play catch-up with price falls too.

How can I survive price falls?

Easily. Sit tight and ride them out. You only need to sell and crystallise a loss in the case of death, divorce or debt.

Even if you need to move for your job, if you think you'll take a big hit it may be worth considering renting out your existing property and doing the same where you are relocated until the market settles.

Will mortgage rates drop?

The Bank of England base rate may fall by 0.25% to 4.75% before the end of the year, but this is much less than commentators were expecting. Mortgage borrowers may therefore see very little if any reduction in their monthly fees for a long time.

With inflation expected to continue rising to 3.7%, this leaves the Bank with little scope to cut. For this reason, borrowers looking to remortgage are now being advised to consider fixed rates again. Trackers were the favourite recommendation for following interest rates down. However, now that sharp falls look unlikely, that advice is being revisited.

What can I do to prepare?

What your granny would always have advised: pull in the purse strings, get rid of your debts as soon as possible, and get some savings behind you.

There is only one answer to rising petrol prices: drive less. Cut out unnecessary journeys.

Similarly, with rising fuel bills, wear vests and jumpers and turn down the heating.

Rein in all extraneous spending. If you have difficulties staying on top of your money, keep a log of every penny you spend.

Should I cancel my holiday?

If you are struggling to meet mortgage and other debt repayments, then yes.

Otherwise, those who take several trips abroad may be advised to cut back to one or reconsider the destination, given that the pound has fallen by 12% against a basket of currencies, and against the euro by nearly 20%.

Is there any good news?

Masses. If your debts are manageable and you have savings, now will be the time to buy and extend. There will be bargains on the high street, and builders and plumbers will be available, cheap and accommodating.

Similarly, first-time buyers should sit on their hands and ride out any storm. Prices could be more manageable in two years' time.