The global sell-off in stocks by panicked investors in the past week is not all doom and gloom for the United States, though it may be a signal of tough times ahead for other parts of the world, particularly China and emerging markets.
The bearish sentiment that swept through global markets gathered a life of its own on Thursday and Friday, pushing down the blue chip Dow Jones Industrial Average into 10 per cent correction territory since its record high in May. The benchmark S&P 500 has dropped a more moderate 7.5 per cent, because big blue chip stocks such as Apple have fallen hardest.
The Dow Jones last fell 10 per cent way back in 2011.
Concerns about China’s souring economy, a crashing crude oil price, plunging currencies in emerging market economies and a looming US interest rate rise are the chief causes of the market meltdown around the world.
Yet on Wall Street, the pullback is probably healthy. Stocks had been priced for perfection after a six-year bull market run. The market was overdue for a breather.
In the US, there is little evidence to suggest the economy is heading for trouble. The jobs market is robust. Housing construction is picking up. Consumers are showing early signs of belatedly spending their windfall from lower petrol prices.
It is difficult to see a recession hitting the US, even with the Federal Reserve poised to gently raise rates before the end of the year.
More worryingly, China’s slump in manufacturing activity to a six-year low suggests policymakers will struggle to hit their 7 per cent growth target this year unless Beijing pulls out a major government stimulus.
The recent yuan devaluation is hurting emerging market economies that compete with China to supply the world with manufactured goods. It is little surprise we have seen countries such as Vietnam devalue their currency in response to offset Beijing’s competitive depreciation.
Emerging market equity funds have experienced seven straight weeks of investment outflows and debt funds posted their biggest outflow last week since January 2014, Bank of America Merrill Lynch says.
Brazil, Malaysia, Mexico and Russia are hurting from sinking commodity prices.
Forecasting where China and emerging market economies will head from here is almost impossible given the opaqueness of their economic and financial systems and dubious economic data.
For commodity exporters such as Australia and Canada, the performance of China in the months ahead will prove crucial.
Yet for the US, the tumult overseas is unlikely to have a material effect on its economy, barring a financial market catastrophe abroad.
The US is essentially a domestically driven economy and the Fed will be cautious in raising rates.
Exports only account for 13 per cent of US gross domestic product, compared to about 20 per cent for Australia and 45 per cent for Germany, according to the World Bank.
Germany’s DAX index has plunged 11 per cent so far this month. Germany’s automobile makers and industrial manufacturers rely on Chinese demand.
On Wall Street, the glorious bull market of recent years is unlikely to return as corporate earnings growth flattens out.
But unless irrational pessimism takes over, the US economy and market will likely prove more resilient than most of the world.
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