FYI | Sep 07 2011
– Stockmarket falls impact on economic growth
– Impact is felt by both corporates and consumers
– Danske Bank suggests US economy may be less resilient going into 2012
By Chris Shaw
Over the past month, fear of recession and ongoing uncertainty with respect to European and US debt issues has seen equity markets globally lose ground. As an example, the S&P500 Index in the US has recently lost around 16% in just over two weeks of trading.
This has prompted Danske Bank to examine the pass through impact from equity prices to the real economy. Based on Danske's analysis, a 10% fall in equity prices can lead to a fall in GDP growth of around 0.33% in annualised terms.
There is scope for the timing of the fall in equity markets to bias this estimate downwards, as Danske notes there has yet to be any sign of a take-off in the labour market. With fiscal consolidation likely moving closer, Danske's view is the financial turmoil could not have come at a worse time.
In general, Danske Bank points out equity prices feed into the real economy via a number of channels, with the major ones being corporate and consumer spending. For corporate spending, the direct channel comes from a company's ability to refinance via the stockmarket, while there is an indirect effect from changes in expected demand.
With respect to private consumption, falling equity prices drive down both the size of equity holdings and household wealth. This has a negative impact on consumption, even allowing for the mitigating impact of any fall in interest rates as equity prices move lower.
Danske estimates a 10% decline in equity prices would cut private consumption by 0.4% annually on average. Given private consumption makes up around 70% of GDP, the overall GDP impact works out to be around 0.3% per annum or 0.8% in quarter-on-quarter terms.
While this doesn't appear a significant impact, Danske notes declines in equity prices can take some time to completely feed through the system, meaning the duration of any decline in equity markets is also important.
Looking at the current decline, Danske has drawn up various scenarios, ranging from a recovery in the S&P500 to 1350 by year end and then a 10% rise in 2012 to a decline to around 1,000 points on the index.
In all three scenarios the negative impact of equity prices remains throughout the second half of this year given the lagging nature of the wealth effect. The dampening of corporate spending caused by lower equity prices is also not expected to go away until well into the first half of 2012.
In terms of sources of uncertainty for the analysis, Danske notes the impact of the timing of the shock is difficult to quantify as longer-term damage cannot be ruled out even if the employment dynamics of the short are only hurt in the shorter-term.
Given a take-off in the labour market in the US in particular has still not emerged, Danske suggests the US economy is now much less resilient going into 2012. This could mean a longer period of subdued job and consumption growth.
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