Around mid-morning on Thursday, a bull found its way into the Newark Penn Station. The bull didn’t take a ride to Wall Street for sure, but there was no dearth of bullish sentiments as stock market indices rallied to new highs.
The euphoria is visible across global stock markets. The Dow Jones Industrial Average hit a historic high, the S&P500 is hovering above 4,700, the NASDAQ touched 14,800 and stock indices elsewhere else are rallying too. In Europe, which witnessed a contraction in GDP recently, stock indices soared—the pan-European STOXX50E index closed at a new multi-year high.
In India, the benchmark Sensex surged to surpass the 71,400 mark and the Nifty crossed the 21,450 mark by the end of the week. The Indian stock market has reasons to surge. The open question about 2024 seems to have been parked, foreign portfolio investors are back and the year could end with higher-than-expected GDP growth. That is not necessarily the case across the G7 economies.
Clearly, the good news which is fuelling bullish sentiments is that bad news has been evaded. The Summary of Economic Projections—the views of members of the US Federal Reserve, who in this season of joy could well have donned the role of 12 elves—suggests that the Fed will cut its Funds rate from 5.4 percent to 4.6 percent in 2024, and to 3.6 percent in 2025.
The Powell Pivot is stunning. It is said seven days is a long time in politics. The arc of transition for the Fed seems to be 12 days. As recently as December 1, Fed Chair Jerome Powell said it would be “premature to speculate” about cutting the Funds rate and even hinted at a possible tightening of policy. On Wednesday, Powell said they discussed “dialling back” policy restraint and the timing of rate cuts.
It is instructive to note that the scope of good news ends at the curve of cuts. The Fed projections suggest higher inflation for longer and lower growth ahead. Inflation will come below the Fed’s 2 percent target only in 2026; the elves estimate that GDP growth could slide to 1.4 per cent in 2024 and hover around 1.8 per cent in the next two years.
The central question, therefore, is whether the projection of rate cuts is driven by confidence about falling inflation or concern that the economy may crash-land in an election year. When asked if he could confidently say the “economy has avoided a recession” and “isn’t heading for one”, Powell displayed a talent for moonwalking. He surmised “there is little basis for thinking that the economy is in a recession now”, and in the same breath pointed out “there is always a probability that there will be a recession in the next year”.
Uncertainty and questions haunt the G7 economies across the Atlantic. On Thursday, the Bank of England announced its decision to hold interest rates at 5.25 percent. BoE governor Andrew Bailey asserted, “It’s really too early to start speculating about cutting interest rates.” Three members of BoE monetary policy committee expected inflation to rise and wanted rates to be hiked. A few hours later, in Frankfurt, the European Central Bank decided to keep its three key rates unchanged. ECB president Christine Lagarde said emphatically, “We did not, we did not discuss rate cut at all—no discussion, no debate on this.”
The economic projections released by the BoE and the ECB signal serious trouble ahead. The BoE expects growth to be flat this quarter, following a poor showing in past months. Forecasters estimate GDP growth in the UK would be 0.4 percent in 2024 and 1.2 percent in 2025. The ECB staff estimates that growth in the Euro area will be at 0.6 percent in 2023, 0.8 percent in 2024, and 1.5 percent in 2025 and 2026. The market perception is that the spectre of economies poised on the brink of recession could force both the BoE and the ECB—although both Bailey and Lagarde ruled it out—to cut rates even earlier than the US Fed.
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The big debate is about the WHEN of the rate cuts. Scepticism made a brief appearance on Friday as Fed officials tried to douse the euphoria—New York Fed president John Williams even said, “We aren't really talking about rate cuts right now.” The markets closed higher anyway, suggesting they know better. It is true that rallies are triggered by perceptions about good tidings—for sure India presents an exceptional story and the US economy may just live up to its resilience branding. Equally rallies are sustained by performance in the real economy. Can sentiments look past a global de-growth?
Context is critical for assessing the trajectory of policy. There are many flashpoints which could upend sentiments—from geopolitics to a trade war. The year began with much hype about the rebound of the Chinese economy following the lifting of zero-Covid restrictions. That hope died mid-year and the prospects of any rebound in the near term are bound by Xi’s politics. The US and China account for over 40 percent of the global economy and Europe another 15 per cent. What happens in the world’s largest economies has implications for global markets.
Amid the lather of hope and hoopla, it is useful to revisit the old aphorism which says markets can remain irrational longer than investors can stay solvent.
(shankkar.aiyar@gmail.com)
The Third Eye/ Shankkar Aiyar
Author of The Gated Republic, Aadhaar: A Biometric History of India’s 12 Digit Revolution, and Accidental India