Contact: Stephen Cecchetti, (614) 292-9339
Written by Jeff Grabmeier, (614) 292-8457
[email protected]
Stock Market Fall Of 15-20 Percent Unlikely To Cause Recession
COLUMBUS, Ohio -- A 15 to 20 percent drop in the stock market probably wouldn't be enough to trigger a U.S. recession, according to Stephen Cecchetti, professor of economics at Ohio State University and a former Federal Reserve Bank official.
In a recent analysis, Cecchetti said a major drop in the stock market - for example, if the Dow tumbled to 8,500 from its current level of about 10,000 - would not be dangerous to the economy. He found that consumer consumption hasn't risen nearly as fast as the increase in wealth from the stock market, and so a major stock market dive is unlikely to result in a consumption drop.
"Consumers have reacted cautiously to the rise in the stock market over the past decade, so there is no reason to panic -- at least not yet," said Cecchetti, a former director of research at the Federal Reserve Bank of New York.
There's no doubt that consumer consumption has grown significantly in recent years. From 1990 to 1999, household spending increased by just over 60 percent (not adjusted for inflation) from $3.8 trillion in 1990 to $6.2 trillion in 1999.
Still, consumption didn't grow as fast as might be expected given the increase in Americans' wealth due to the booming stock market. In fact, the proportion of Americans' wealth that they spent each year has actually declined in recent years, according to Cecchetti.
Federal Reserve Board figures show that prior to 1995, Americans spent between 17.5 and 21.5 percent of their total wealth each year. By 1998, Americans were spending only about 16 percent of their wealth each year.
"The unprecedented rise in wealth has produced an unprecedented response by households - consumption has been more muted than ever before," Cecchetti said.
"In other words, as dramatic as consumption has been over the past five years, it has not even come close to keeping pace with the increase in wealth."
Why have people not increased their spending to keep up with their wealth? Cecchetti said people are likely wary of the high-flying stock market and have purposely been restrained in how much they spend. As a result, a 15 to 20 percent drop in the stock market would likely have relatively small effects on the economy.
"But a fall of more than that and we should be worried," he said.
Cecchetti's full analysis is available on the web at:
http://economics.sbs.ohio-state.edu/cecchetti/occessays.htm (see essay No. 4)
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