Careening Stock Market Is Scary Stuff
Saturday December 16, 8:27 am Eastern Time
By Pierre Belec
NEW YORK (Reuters) - The stock market is slipping and sliding in a way that experts say could be a sign of recession, and Wall Street's big fear is that Federal Reserve Chairman Alan Greenspan has pumped the brakes so hard to slow the economy he may not be able to avoid a fatal skid.
Investors are looking to the Fed chief for help in restoring stability to the market and ensure the current economic slowdown doesn't accelerate into something worse.
After all, the central banker contributed to the upheaval by raising interest rates six times from June 1999 to May this year to keep the fast-growing economy from revving up inflation.
The concern is that even if Greenspan acts quickly to lower interest rates early next year, it may be hard to keep the cooling economy from avoiding a recession. The reason: it takes up to nine months for policy changes to filter through and by that time, the economy could be dead in the water.
Also, Greenspan may have taken it to the limit by raising rates six times, causing an unbearable deceleration in growth. The proof: consumer confidence and economic growth slowed in the third quarter to a pace unseen in four years.
Simply put, the tough Fed remedy to cure a weak inflation bug may have killed the patient.
The central bankers meet Dec. 19 to take another look at the economy. The betting is that they will shift their focus from inflation and adopt language that zeros in on the risk of an excessive slowdown. This would lay the groundwork for an eventual rate reduction early next year.
The damage, however, has been done. The Nasdaq market has suffered a nose-bleed fall of 50 percent from its March high, and a loss of more than 35 percent for the year. The Dow Jones industrial average, which is on track for its first down year since 1990, has lost more than 9 percent this year.
WHAT HAPPENS IF GREENSPAN DOES NOTHING?
``The worst case scenario would be if the Fed does nothing at its December meeting and maintains its tight money policy,'' says Allen Sinai, chief global economist at Primark Decision Economics Inc. ``Stocks would go lower and the economy would decelerate faster.''
Sinai's bet: The Fed will tilt to a neutral policy in December and perhaps follow up with an interest-rate cut at the policy-setting meeting on Jan. 30-31.
The first reduction in interest rates could be one of the few rays of sunshine on Wall Street in the New Year.
``What may work in the Fed's favor is that there will be the perception that once it starts to cut, there will be a series of easings through the next two years with a total drop of 150 basis points,'' says Sinai.
The economy grew in the second quarter at a tremendous rate of more than 6 percent year over year, but growth by the middle of next year will slump to 3 percent or possibly 2 percent.
Experts say that such a stressful drop in growth would be too much for the world's largest economy to handle.
The speedy deceleration from boom to subpar growth will also have a chilling effect on the forward planning of businesses, which are already slashing their capital spending on new technology and other productivity-boosting things. Corporate capital spending, which soared to $1.9 trillion over the last 10 years, had a big role in fueling the nation's record economic growth.
``The message we are all getting is that there is a very different backdrop out there,'' says Sinai. ``We are at a different phase of the business cycle after 10 years of growth.''
He adds, ``In this 'New World,' an economy that grows by 2 percent or less, will feel like an 'Old World' economy felt when there was zero growth.''
The field reports are in from the Fed's pre-emptive rate strikes.
The rate boosts totaling 175 basis points from June 1999 to May this year were supposed to bring the economy to a soft landing. That scenario has gone out the window and Wall Street is pricing in a nastier script -- a hard landing, or worse, a recession -- that brings a high jobless rate and personal and corporate bankruptcies.
With the economy shifting into lower gear, investors are trying to figure out how much more corporate earnings will be damaged.
``People have noticed that things have changed, and it is having a negative increment,'' says Sinai. ``Change is difficult for people and the financial markets, especially the stock market, have been acting as if the economy is caving in.''
GREENSPAN MAY NOT HAVE GOTTEN IT RIGHT
History shows that Fed policymakers don't always act correctly or in time and with the right amount of force to correct a problem. And, in this case, they may have used strong-arm tactics to fight what turned out to be a weak inflation foe.
In a speech this month, Greenspan said he was alert to the economic slowdown, which is spreading worldwide. He did not declare victory over the inflation demons, but said the Fed no longer viewed inflation as the biggest threat to the economy.
``With equity prices weakening in response to reduced earnings from higher costs and a more moderate pace of sales, the 'wealth effect' that spurred consumer spending is being significantly attenuated,'' he said.
Greenspan also seemed to acknowledge that the jump in interest rates had made Corporate America's future earnings worth less than they were 12 months ago. Earnings for the fourth quarter are expected to increase by just 8.5 percent, down dramatically from the 24 percent gain in the first quarter of the year.
Also, the message was that once a crisis erupts, easy solutions are not always available, and a growth slowdown may be inevitable.
For the fourth straight month, the manufacturing sector contracted in November as demand for U.S. goods kept shrinking.
``This economy is not as healthy as people think,'' Jerry Jasinowski, president of the National Association of Manufacturers, says of the slide in manufacturing activity. ``We think the Fed's interest-rate policy is more than the economy can deal with as it begins to slow down.''
The economic boom, which has been fueled by America's appetite for stuff, is dying out. Retail sales -- the backbone of the economy -- took an unexpected dive in November as the Thanksgiving-to-Christmas shopping season got off on the wrong foot. New-car sales had their sharpest slump in more than two years and home sales fell from their highs.
From a jobs-growth standpoint, the private sector created 100,000 jobs a month in the last six months, which is an eye-popping drop from 246,000 jobs each month during the previous six months.
The November jobs report showed a drop in hours worked, which can be a signal of increased unemployment later. What happens is that businesses first cut back on the workforce's hours before pulling the layoff trigger.
Also, more people showed up to collect unemployment benefits in the last four weeks with the total the highest since the summer of 1998. Historically, jobless claims tend to jump before a recession or an economic slowdown.
Indeed, the sure thing for 2001 is that 'Fed watch' will become a national preoccupation now that the economy is in trouble.
For the week, the Dow Jones industrial average fell 277.95 points to 10,434.96. The Nasdaq Composite index slumped 264.44 to 2,652.99 and the Standard & Poor's 500 index was off 57.79 at 1,312.10. |
