Commentary: The stock market is flat to down and this is bad news for the economy. A decline in the market often foretells an economic slowdown.
Stock prices, more or less, reflects traders’ expectations about future profitability. When the traders collectively believe that the typical company will see falling profits, then the stock market falls. And the typical company doing poorly is the definition of a recession.
Besides, the market is also the yield curve that indicates down turn. The yield term is the relationship between short-term and long-term interest rates, for example, between the three month and 10-year bond.
Because long-term assets are riskier than short-term, long rates tend to be higher than short-term. But this relationship can reverse when the Fed tightens. This means higher short-term rates, but it also means lower future inflation, which reduces long-term rates. The yield curve inverts when the Fed tightens too much, or so the argument goes. In effect the short-rates are greater than the economy can sustain.
Combining the stock market with the yield curve paints a picture of heighten risk or recession. Or does it.
There are reasons to think that both the stock market and the yield curve are sending false signals; that the current circumstances are sufficiently different from typical that the recession is not as likely as might be thought otherwise.
In particular, the President’s tax cut has had the intended effect of super charging the economy. And the breakneck pace can’t be sustained meaning that a slowdown is all but inevitable. That is what the stock market and yield curve is picking up.
But a slowdown does not mean a recession. In deed, the economy is roaring. The unemployment rate is 3.7% for the third month running. You have to go back to December 1969 to find a lower rate. And for eight months straight job vacancies have outpaced seekers, meaning there are more jobs than people to fill those jobs.
But slowing down from a breakneck to normal is not a recession yet could trigger a stock price drop and an inverted yield curve. First the market is down only a little bit. Second, the yield curve has inverted only for short periods and only by a little. That is, the negative signals are not strong.
Taken as a whole, the indicators is for continued slow growth, although the risk of recession in 2019 is heightened. Overall, the chance of a recession in 2019 is something like one-in-three. And it’s not just me who thinks this. JPMorgan, UBS Group, Goldman Sachs, and Bank of America all have issued forecasts for 2019 of continued growth coupled with a risk of recession.
The current expansion is the second longest on record. Chances are that it will continue for yet another year.
Christopher A. Erickson, Ph.D., is a professor of economics at NMSU. He believes predicting the past is easier than predicting the future, but not as interesting. The opinions expressed may not be shared by the regents and administration of NMSU. Chris can be reached at chrerick@nmsu.edu.