Investors around the world are stunned by what’s happened to equity markets in just the last week. The latest collapse (dare I call it that?) has been led by China which saw its Shanghai Composite Index plunge by a third of its value in July, before recovering only modestly.
Despite a host of government measures aimed at rescuing its equity markets – slashing interest rates, cutting margin requirements, halting short selling, suspending trading in many stocks, etc. – the Shanghai Index proceeded to plunge even further in the last few days, now approaching a 40% drawdown.
Here at home, our own stock markets have taken it on the chin, falling to their lowest levels in four years. The Dow has fallen over 13% and the S&P 500 over 11% from their May record highs, with most of the carnage coming in four dramatic trading sessions starting last Thursday – capped off by Monday’s open which saw the Dow plunge over 1,000 points in seconds.
The question on everyone’s mind is whether this is merely a long overdue market “correction,” or whether it’s a sign of something far worse – a global recession and/or another financial crisis. While I don’t pretend to have the answer, I can tell you that Americans’ confidence in the future of the US economy has fallen sharply since the first of this year.
To see that, we look at Gallup’s U.S. Economic Confidence Index that it publishes weekly. As we can see in the chart below, economic confidence increased significantly from October of last year to early February of this year. Since then, however, it has fallen dramatically.
Gallup’s Economic Confidence Index is the average of two components: 1) how Americans rate current economic conditions; and 2) whether they feel the economy will get better or worse going forward. The Index reached positive territory for the first time since 2008 in late December 2014. It remained there until late February, when it began dropping as US gas prices began to rise.
This is the second time in the past two months in which an international economic event appears to have affected US stocks as well as economic confidence. Last month, before the Greek debt deal was finalized, the Economic Confidence Index also dropped to -14, matching the latest week’s reading, which many feel was tied to fears about China.
Americans’ perceptions of the economy’s direction became more pessimistic last week, as the outlook component score fell six points to -21 (see chart below), the lowest weekly average since the end of July 2014. This latest average was the result of 37% of Americans saying the economy is “getting better” and 58% saying it is “getting worse.”
The current conditions score was stable last week, averaging -6, similar to what has been found most weeks since late May. This was the result of 24% of Americans rating the current economy as “excellent” or “good” while 30% rated it as “poor.”
China, the second-largest economy in the world and a major exporter of goods to the US and other countries, has experienced tremendous economic growth in recent years. Gallup believes that with the Chinese economy showing signs of weakness, and its government responding by devaluing its currency, investors abroad are showing concern.
The questions surrounding China’s economy appear to be a major reason for losses in the global equity markets, including in the US. While Americans’ current conditions component has edged only slightly lower since May, the economic outlook component has fallen sharply to the lowest level since last August.
Gallup cautioned that the situation in China may continue to reverberate in the US, with the possibility of further losses in stocks, although the markets rebounded strongly yesterday. Gallup noted that if the stock markets continue to suffer, particularly if this affects broader aspects of the economy, Americans’ confidence could be shaken further in the coming weeks.
FYI, Gallup’s US Economic Confidence Index differs materially from the Conference Board’s Consumer Confidence Index, which measures the degree of optimism (or pessimism) among consumers based on their activities of savings and spending. This Index, as reported on Tuesday, rose nicely in the month ended August 13, but has been in a sideways trading range all year.
Finally, this morning we got the second estimate of 2Q GDP which was revised upward from 2.3% initially to a whopping 3.7% (annual rate) – far above the pre-report consensus of 3.2%. This was a big surprise that was attributed to an unexpected spike in inventories in the 2Q. That is not good for the 3Q since those inventories will have to be worked down.
The Atlanta Fed’s latest GDPNow reading for the 3Q stands at only 1.7%, up from 0.7% earlier in the month. The latest GDP reading increases the odds of a Fed rate hike in September.