Volatility Doesn’t Come Without Economic Consequences

The stock market these days is like a roller coaster.

Photographer: Bloomberg

Last week saw one of the largest increases in volatility since the financial crisis as equities tumbled. Even so, many market pundits say not to worry because the U.S. economy is still expanding at a strong pace. That may be true now, but when volatility exploded in the past the economy usually took a hit.

Volatility shocks in 1998, 2008 and 2011 foreshadowed slower growth, or even a contraction, about one to two quarters later. Rising volatility in financial markets can affect confidence, causing companies to delay expansion or other plans and for consumers to cut back on spending. After all, it's hard to know whether the funding you need to pay for such things will be available and at what cost if markets are going haywire.

The latest bout of volatility was triggered by an unexpectedly big jump in average hourly earnings reported by the U.S. government on Feb. 2. The 2.9 percent increase in January from a year earlier was the biggest since 2009, raising concern that inflation is poised to accelerate. That led investors to dump bonds, pushing up yields. The prospect of higher borrowing costs spooked the equities market, leading to a drop in share prices. No less than Federal Reserve Bank of New York President William Dudley said last week that a persistent decline in equities could slow spending, but that the recent turmoil hasn't yet changed his outlook.


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