Markets are panicking over the prospect of good news

There was chaos in the US yesterday. The S&P 500 has dropped four per cent in the last week; the NASDAQ composite lost six per cent.   And why? Because the markets think that the  economic recovery will be faster than previously feared.’

Bad news indeed, there is a growing sense of dread  that the economy will recover much more quickly than previously ‘feared.’ In the US, shares have been tumbling on the disturbing news that US employment could recover rapidly.

The US Fed chair Jerome Powell tried to placate the markets, assuring them that a return to pre-Covid levels of employment won’t be realised until next year.

The markets are having none of it. On the BBC this morning, experts speculated that the Fed was losing control of inflation which soared to 1.2 per cent in January, the kind of levels that bring back memories of the Weimar Republic in post World War 1 Germany. The parallels between that dark period in economic history and today are clear to all those who don’t think zeros matter.

At one point in 1923, inflation in Germany hit 41 per cent a day, which, if you ignore the numbers, is frighteningly similar to the US level right now, in much the same way that a labradoodle puppy is a terrifying beast if you ignore the fact that it is a labradoodle puppy and not an adult tiger.

Since the middle of February, the NASDAQ composite has now lost almost ten per cent, such is the level of fear that the US economic recovery might be quite good.

It boils down to inflation and interest rates. According to an economic theory that pro-market economists say is discredited, there is a trade-off between inflation and employment— the relationship is known as the Phillips Curve.

Now those same pro-market economists fear inflation could return as predicted by the Phillips Curve.
“Don’t worry, be happy,” said Jerome Powell, which was the last thing the markets wanted to hear.

Actually, Mr Powell did have some good news for the markets. He said: “The resurgence in COVID-19 cases, hospitalisations, and deaths in recent months is causing great hardship for millions of Americans and is weighing on economic activity and job creation.”
He continued: “Although there has been much progress in the labour market since the spring, millions of Americans remain out of work.”

But then he delivered the devastating blow. “Developments point to an improved outlook for later this year,” he said. He then tried to cushion the blow, saying:  “The economy is a long way from our employment and inflation goals, and it is likely to take some time for substantial further progress to be achieved.”

But the markets didn’t believe it. Powell suggests that if inflation does rise, its increase will be modest and short-lived.

But the markets can’t get passed the dreaded possibility that employment will recover more quickly than previously expected, meaning that the majority of individuals will be better off.  This simply will not do because if the economic recovery proves robust and inflation does pick up a bit, interest rates will go up. And in 2021, markets have based all their hopes on record low interest remaining for the foreseeable future, on the back of weak growth in wages and many more years of the fruits of capitalism trickling down to as few people as possible.