Do Not Use The Stock Market To Claim An Economic Recovery

Monty Pelerin / EconomicNoise.com

How often have we been told that the economy is recovering?

By my count we are now in our fourth “Recovery Summer.” The recession was officially (and mistakenly) declared over in June 09. Yet, no data series in economics not influenced drastically by liquidity and a zero interest rate policy (e.g., stock prices and home prices) supports the claim.

One has to wonder just how many summers it takes to add up to a recovery. Other than the Great Depression, no recovery has taken this long and this recovery has not taken yet.

Recovery advocates point to the stock market as a barometer of how well the economy is doing. Stock market performance has been impressive. The Dow ended the first quarter of 2009  at  7,600 (after an intra-quarter low of 6,500). At the end of May 2013, the Dow closed at 15,100. The difference between these two closes represents an increase of 99%. This result provides the ammunition for the economic cheerleaders.

Stock Market And The Economy Are Not The Same

The stock market is not the economy. Over the long term, its performance and that of the economy tend to correlate well. However, we are in a period where markets are less influenced by economics than by government interventions. The liquidity pumped into the economy and financial asset markets is highly unusual and cannot be maintained much longer. My take is that the stock market reflects Federal Reserve pumping more than an economic recovery.

If the stock market is a barometer of economic well-being, it might be useful to explore its performance in other difficult times. There is no better hard-time comparison than the Great Depression. Those who rave about the stock market as an indicator of economic health should be careful. Their ancestors might have used the same argument in 1937. The stock market closed at 72 in the second quarter of 1932 and hit a high of 195 during the first quarter of 1937.  That return dwarfs our puny recovery, representing a return of 171%.

So how did that work out?  The Depression did not end in 1937. Some argue that it ended with our entry into World War II. Others, and I am in this camp, argue that it didn’t really end until the mid to late 1940s. Regardless, using the stock market then as a guide to economic activity was just plain wrong. Furthermore, a lot of people went bankrupt believing the market and the economy were healthy in 1937.  Nine months later, the stock market closed at 121, about a 35% drop. Furthermore, it wasn’t until the first quarter of 1946, almost nine years later, that the stock market returned to 195. It was the second quarter of 1950 before it crossed 195 and the 1950′s rally began.

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