What’s behind the global stock sell-off?
CAPITALISM has always been an epic struggle between risk and reward, and the easiest way to understand the present turmoil in world stock markets is to recognize that the two have reversed. Risk has gone up, and reward has come down. Investors have reacted by selling. Fear triumphs over greed. This, of course, increases risk and selling. It's an old story.
It may also be misleading. Despite the sell-off's severity (in 2016, U.S. stocks have dropped 7.4 percent and lost $1.8 ?trillion in value, says Wilshire Associates), many economists doubt it heralds a recession. "Market turmoil [is] not justified by economic reality," Capital Economics, a consulting firm, told clients. Economists at Nomura, in a January report, rated the chances of a U.S. recession this year at 21 percent. The International Monetary Fund has the U. S. and global economies avoiding a downturn in 2016.
Robert J. Samuelson writes a weekly column on economics. View Archive "Consumer fundamentals remain strong," Nomura says of the United States. "Significant pent-up demand for housing is likely to sustain above-trend growth in residential construction. .?.?. The banking system is well capitalized." (This last observation refers to large losses suffered by banks in the Great Recession that caused many of them to cut lending.)
Similarly, China's outlook is hardly a recession. The IMF fore- casts the country's growth in 2016 at 6.3 percent, which - though much less than recent rates of 10 percent - still exceeds most other countries'. "China's economy is set to slow, but not collapse," writes economist Paul Sheard of Standard & Poor's.
But there is a less reassuring interpretation: The global stock sell- off may reflect gloomy prospects for "emerging-market" economies. These are middle-income countries: China, Brazil, Russia, Mexico, Indonesia, India and the like. Together, they represent nearly half the world economy and, until recently, were expected to power global growth. Now, many (not just China) are struggling with stubborn problems. With hindsight, their previous rapid growth depended heavily on a fleeting commodities boom and unsustainable borrowing.
If this theory is correct, then the worldwide sell-off of stocks repre- sents a logical response to reduced economic prospects. (In theory at least, stock prices reflect today's value of future profits.) Unfortunately, two bits of evidence support this theory. One is oil. Since mid-2014, its price has dived from more than $100 a barrel to about $30. Traditionally, lower prices have been seen as a boon. Consumers' savings at the pump can bolster other spending. But this time, lower prices are also blamed for spreading distress and dragging stock markets down. Why is this?
Part of the explanation is that prices are so low that dozens of new exploration and development projects were rendered uneconomic. Oil companies have canceled $1.6 trillion worth of projects through 2019, estimates the consulting company IHS. The loss of these projects (and jobs) represents a drag on the global economy and, to some extent, justifies lower stock prices. But that may not be the end of the story.
"Oil is a symptom," says Roger Diwan of IHS. It's a symptom of disappointing emerging-market economies. Low oil prices don't just reflect oversupply. They also result from soft demand. Because increased demand comes heavily from emerging-market nations, they may be weaker than assumed. Oil may be the canary in the mine.