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US recession or expansion - What is next?

When the US economy is healthy, the stock market happily rises, but it often happens that wistful speculation makes it rise faster than the economy as a whole, thus creating a baloon that must explode sooner or later. If the economy is still healthy, such an "explosion" is called a "correction". This latest "correction" is in percentage points much smaller than previous ones falling into severe recessions, such as the one in 1978 or the other starting in 2008. The balloon usually explodes when something happens creating uncertainty. In this case there were two major worrying events for investors: the collapse of Wells Fargo's stock and the selection of a new Federal Reserve chairman. Investors worried about a major bank default and a significant raise of interest rates by the new chair. Both events happened simultaneously and provoked a small stampede, but far from starting a new recession at a point when corporations, investors and capitals are returning to the US enticed by President Trump's tax reform. The following article has a different, but interesting perspective.

America’s extraordinary economic gamble

  • Fiscal policy is adding to demand even as the economy is running hot.
  • Just when volatility returns to the markets and inflation replaces stagnation as investors’ biggest fear, the United States is adding a hefty fiscal boost—through tax cuts and, if it holds, this week’s budget deal in Congress. It is going to be a wild ride. 

Washington DC, Feb.8.– Volatility is back. A long spell of calm, in which America’s stockmarket rose steadily without a big sell-off, ended abruptly this week. The catalyst was a report released on February 2nd showing that wage growth in America had accelerated. The S&P 500 fell by a bit that day, and by a lot on the next trading day. The Vix, an index that reflects how changeable investors expect equity markets to be, spiked from a sleepy 14 at the start of the month to an alarmed 37. In other parts of the world nerves frayed.

Markets later regained some of their composure. But more adrenalin-fuelled sessions lie ahead. That is because a transition is under way in which buoyant global growth causes inflation to replace stagnation as investors’ biggest fear. And that long-awaited shift is being complicated by an extraordinary gamble in the world’s biggest economy. 

Thanks to the recently enacted tax cuts, America is adding a hefty fiscal boost to juice up an expansion that is already mature. Public borrowing is set to double to $1 trillion, or 5% of GDP, in the next fiscal year. What is more, the team that is steering this experiment, both in the White House and the Federal Reserve, is the most inexperienced in recent memory. Whether the outcome is boom or bust, it is going to be a wild ride.

Fire your engines

The recent equity-market gyrations by themselves give little cause for concern. The world economy remains in fine fettle, buoyed by a synchronised acceleration in America, Europe and Asia. The violence of the repricing was because of newfangled vehicles that had been caught out betting on low volatility. However, even as they scrambled to react to its re-emergence, the collateral damage to other markets, such as corporate bonds and foreign exchange, was limited. Despite the plunge, American stock prices have fallen back only to where they were at the beginning of the year ...

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