Global stock markets are experiencing significant declines due to escalating concerns about the U.S. economy, adding further complexity to an already chaotic election cycle this summer. The turmoil began overnight in Japan, where the Nikkei index plunged more than 12 percent, marking its worst performance since the global market crash of 1987. This decline spread to Europe and the U.S., where major stock indexes fell by more than 2 percent. Despite the relatively low odds of a U.S. recession, given strong consumer spending, the risks are increasing.
The change in market sentiment is remarkable. A few weeks ago, there was optimism about declining inflation and resilient economic growth, which would have been beneficial for Vice President Kamala Harris in her pitch to voters. However, a weakening job market has raised concerns that this positive outlook might not last, even as the Federal Reserve nears a victory over inflation and plans to ease economic measures soon.
“It’s been less than two weeks since [data showed the economy growing faster than expected], with equity markets hovering near record levels, yet there is growing sentiment that the Fed waited too long to cut interest rates and is now behind the curve,” said John Lynch, chief investment officer for Comerica Wealth Management. “While we’re not completely sold on the new narrative, the one thing that seems certain is that there is more volatility ahead.”
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Reasons Behind the Stock Market Decline
Markets are forward-looking and closely monitor economic indicators to predict future trends. On Friday, the Labor Department reported a higher-than-expected unemployment rate, indicating a slowing economy and raising fears of a potential recession. Stocks often react to expected future profits, and slower economic growth means lower profits.
The sell-off has primarily affected tech stocks that had been driving market indexes higher, such as Nvidia, a maker of artificial intelligence chips. “I do think that more of the story is just the unload of all of the high-fliers this year,” said Kevin Gordon, a senior investment research manager at Charles Schwab.
Additional factors contributing to the sell-off include Japan’s central bank raising interest rates, which strengthened Japan’s currency compared to the U.S. dollar. This shift affected investors, particularly hedge funds that had borrowed cheaply in yen and invested in U.S. assets, now worth less. This situation has led to increased market volatility as investors scramble to raise cash.
Is a Recession Imminent?
There is no certainty about a recession at this point. While fears have increased due to the recent rise in the unemployment rate, triggering the Sahm rule—a statistical threshold indicating early recession stages—the U.S. economy still shows resilience. The jobless rate is 4.3 percent, higher than the early 2023 figure of 3.4 percent, but employment among prime working-age individuals is at its highest since 2001. The unemployment rate has risen mainly because more people are seeking work, including immigrants.
The U.S. GDP grew at a 2.8 percent rate in the second quarter, faster than expected given the high interest rates. Claudia Sahm, the economist who developed the Sahm rule, does not believe the U.S. is currently in a recession and suggests her rule might not apply this time.
Tech Stock Impact
The recent stock market decline has significantly affected tech stocks. High-profile companies such as Amazon, Microsoft, and Tesla reported disappointing earnings, leading to a sharp drop in their stock prices. The NASDAQ, heavily weighted with tech stocks, lost nearly 9% over two trading days. This decline is partly attributed to the unwinding of the yen carry trade, where investors borrowed in low-interest yen to invest in higher-yielding U.S. assets (S&P Global) (markets.businessinsider.com) (DW).
Federal Reserve’s Rate Decisions
Criticism is mounting against the Federal Reserve for potentially delaying interest rate cuts for too long, with Senator Elizabeth Warren calling the decision a “serious mistake.” However, if the unemployment rate stabilizes or improves in August, it may alleviate fears of rapid economic deterioration. The central bank is expected to cut rates at its next meeting in September, possibly by more than the usual quarter of a percentage point.
Chicago Fed President Austan Goolsbee emphasized on CNBC that the economy does not appear to be in a recession and cautioned against overreacting to one data point. He assured that the Fed is monitoring the situation closely.
Political Implications of the Market Decline
Republicans are using the market decline to their advantage, dubbing it the #KamalaCrash. However, markets are unpredictable and likely to fluctuate in the weeks leading up to the election, complicating political messaging around Wall Street.
Most investors do not directly associate the market crash with the election campaign, although political uncertainty is a factor. GOP pollster Frank Luntz noted the limited political impact of the stock market, stating, “I can state categorically that the stock market doesn’t matter—it didn’t help Trump when it was up, and it will not hurt Harris when it is down.”
Nevertheless, a continued stock market decline could align with negative economic news, posing a challenge for Harris.
Stock Market Volatility and Political Impact
The recent stock market turmoil reflects growing concerns about the U.S. economy’s health and has significant political implications. While the immediate future remains uncertain, the situation highlights the interconnectedness of economic indicators, market reactions, and political narratives. As the election approaches, these factors will continue to play a crucial role in shaping voter perceptions and political strategies.
