Markets and Economy

Should We Worry About the Stock Market?

The stock market has had a rocky start to 2016, prompting fears about the health of the broader economy. But the labor market seems unfazed—how much should we worry about the stock market’s recent turmoil?
Jim Glassman, Head Economist, Commercial Banking
February 11, 2016

Following the 2008 financial crisis, the stock market was a rare bright spot—GDP growth was sluggish and unemployment remained persistently high, but equities seemed to be on an unshakable upward trajectory. The S&P 500 regained its prerecession high in the spring of 2013, when the official unemployment rate remained at 7.5 percent. Investors were confident that better times lay ahead.

Now that the broader economy is finally recovering its strength, the stock market seems to have lost momentum. After briefly rallying from a September slump, equities started the new year with another round of steep losses. Is the stock market signaling a broader economic slowdown ahead?

The Bigger Picture

Outside of equity prices, there's little corroborating evidence that the economy is beginning to falter. It's telling then that headlines last week featured a weaker-than-expected survey of non-manufacturing supply managers—this relatively narrow and tangential measure of economic activity was highlighted by analysts seeking to validate their anxiety. Meanwhile, the much more comprehensive and reliable ADP national employment survey reported steady private-sector job creation in January. Weekly layoff figures showed no signs of mounting distress among the nation’s employers, and the nonfarm payroll estimate showed that labor income rose at a healthy pace, supported by longer work schedules and faster average hourly earnings gains.

Of course, the labor market’s strength does not mean that the headwinds facing the stock market are imaginary. The continued slump in oil and commodity prices has placed real stress on large sectors of the American economy, and China’s slowing growth is undoubtedly bad news for some publicly traded corporations. However, these headwinds should be viewed in perspective—cheap oil may have slowed drilling activity in the west, but it has been a boon for consumer spending. And China’s slowdown should be a relatively minor story in comparison to strong growth at home.

A Weak Recovery?

Today’s fears about the stock market are rooted in the mistaken belief that the recovery has been unusually slow and the economy remains fragile. While aggregate production has been relatively slow to regain its momentum, it's misleading to judge the economy’s strength by GDP alone, which has downshifted due to slow demographic growth.

A far better measure of the recovery’s strength is how quickly the economy has taken up the slack capacity created during the downturn. The 2008 recession was unusually deep, leaving the labor market with considerable ground to cover; however, the economy responded by adding jobs at an above-trend pace that has outshined past recoveries. From this perspective, the recovery has actually been one of the strongest periods of growth in modern times.

The stock market is inherently volatile, but equities don't always foretell the fate of the broader economy. Monetary policy is unlikely to be swayed by turmoil in the stock market—the Federal Reserve is focused on more substantial indicators, like changes in employment and inflation, that drive the health of the real economy. Without corroboration from the labor market, it would be a mistake to read too much into the stock market’s recent stumble.

 

View our economic commentary disclaimer.

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