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DANGER LURKING IN THE MARKETSCould a sell-off end the expansion?For economic forecasters, the course of the U.S. economy over the coming year seems a relatively easy call. At least that's what appears to be implied by the close accord among the experts recently polled by BUSINESS WEEK, who foresee a year of moderate growth, moderate inflation, and a low and steady jobless rate (BW--Dec. 30). What many are ignoring, however, claims economist Irwin L. Kellner of Chase Manhattan Corp., is the rising volatility of the financial markets and the upturn's growing vulnerability to a market correction. While the real economy, he says, has apparently settled into a relatively narrow growth path, the financial markets have become increasingly skittish--often fluctuating wildly in the wake of the latest economic release or statement by government officials. The bond market's gyrations provide one example. After starting 1996 below 6%, the 30-year government yield surged to 7.19% by early July, fell back to 6.35% in November, and then rose to almost 7% in late January. Meanwhile, in trading through Jan. 24, an exuberant but visibly nervous stock market posted no fewer than five 100-point swings between daily highs and lows in the Dow Jones industrial average, compared with just one 100-point swing in the same period in 1996 (chart). Indeed, on Jan. 28, the Dow surged 90 points during the day, before closing down 5 points. What worries Kellner is that all of this is happening at a time when the financial markets have unprecedented ''leverage'' on the real economy. According to the Investment Company Institute, nearly 40% of households now own stock, compared with less than 30% in 1992. At the same time, total bond market capitalization has soared from 100% of gross domestic product in 1980 to more than 150%. And total stock market capitalization recently surpassed 100% of GDP for the first time in history. By enhancing household wealth and consumption and reinforcing business optimism, the stock market boom has played a major part in extending the life of the current expansion, Kellner believes. But its very importance, he argues, raises the risks that a panic-inducing sell-off could cause severe consumer and business retrenchments. ''The message of market volatility,'' he says, ''is that for the first time since 1929, we may be in a situation in which turmoil on Wall Street could conceivably bring a cyclical expansion to an end.''
By GENE KORETZ
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Updated June 15, 1997 by bwwebmaster
Copyright 1997, by The McGraw-Hill Companies Inc. All rights reserved.
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