How Bad Will the Economy Get?

5 Possible Scenarios for the Downturn--and the Smart Way to Deal With Each

IT'S TIME to get our heads out from under the covers and face our worst fears. The financial crisis is worldwide, and the U.S. is actually better off than most countries. Iceland is bankrupt, and others (including Russia) are teetering. What happens when a crisis turns into a complete collapse?

Keep in mind that the worst possible outcomes are short-term. We'll take a look at those and then look at the reality of the long-term.

Short-term Possibilities:

Scenario #1: Complete Financial Collapse.
Likelihood: 1% to 2%.
This could rival the Great Depression scenes we see in old movies, with bread lines, tent towns of homeless, etc. You're not able to use your credit cards, or write checks. In the worst case, where faith in US dollar evaporates, bartering or using gold becomes the basis of commerce.

This extreme outcome could be produced in our current economy if one or two extremely destructive exogenous events occur in the next year or so. These traumatic events could be anything from a huge California earthquake, Al Qaeda usurping power in Saudi Arabia and strangling the world's oil supply, or severe weather changes brought on by global warming, etc.

Self-defense: If you are genuinely concerned about this worst-case scenario, consider keeping 1% to 2% of your portfolio in gold bullion.

Scenario #2: Worldwide Deflation.
Likelihood: 5% to 20%.
Countries try to protect their economies using tariffs, which sets off retaliation in other countries so global commerce dries up. Shortages become a way of life. Widespread deprivation kindles violence, terrorism escalates, and a large-scale war may loom.

Self-defense: Even in this case, the dollar would likely be the world's safe haven. Falling prices enable those who have cash or U.S. Treasury bonds to survive and prosper.

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