For the last few years, markets were from Mars, and the real economy was from Venus. The two literally occupied different worlds, as stock prices kept rising, even as wages were stagnant and growth was slow. As of yesterday, that divide has been bridged. Stock prices finally plunged into a real correction of the kind we haven’t seen since the apex of the European debt crisis three years ago.
The question is, why now? The answer comes in two parts. First, with Europe in danger of tipping into recession, and China’s growth much lower than the official statistics would indicate (that’s one of the big reasons oil prices are down since China is now the world’s major consumer of energy), investors have realized that a wimpy recovery in the U.S. isn’t enough to buoy global growth. Sure, growth numbers were a bit better this year than last, but we’re still in a 3 percent economy that doesn’t look or feel much different than the 2 percent economy (see my Curious Capitalist column on that topic). If you think of the global economy as three legs on a stool, the legs being the U.S., Europe, and the emerging markets led by China, what’s becoming very clear to markets is that a 3 percent economy in the U.S. isn’t enough to sustain global momentum. Indeed, the U.S. may grow faster than the world as a whole this year, which is an odd thing for a developed market. It speaks to how weak the global economy as a whole still is.
Second, markets have realized that this recovery has been a genetically engineered recovery. It’s been engineered by the monetary scientists at the Fed, who’ve pumped $4 trillion into the economy since 2009 in an attempt to strengthen an economy that is fundamentally not as strong as it looks. Despite the Fed’s best efforts (and I agree that they needed to do something, especially in the beginning), the real economy simply hasn’t caught up to the markets. Unemployment has ticked down, but wages still haven’t ticked up. It’s no accident that weak retail sales in the U.S. were one of the economic indicators that triggered the sell-off. As I’ve said many times before, you can’t have a sustainable recovery, one markets can really believe in, until you have the majority of the population with more money in their pockets.
The reality is that this hasn’t happened in the last few years, and for many people, decades (the average male worker today makes less in real terms than he did in the early 1970s).
So does this mean we are in for a long, slow slide? Not exactly. I’d bet more on increased volatility (if you are a subscriber, you can read this piece I wrote on the coming Age of Volatility, back in 2011). Markets will go up and down, but as long as the U.S. is the prettiest house on the ugly block that is the global economy, money may stay parked in the largest American multinationals longer than you’d think. Whether or not our economy deserves the vote of confidence is another question.