The Crucial Battle Between the Market and the Economy - Whose Side Are You On?

There is a temptation to equate the stock market with the economy, to consider a rising market synonymous with a strong economy. The urge to do so is entirely understandable; the economy is a complicated collection of statistics, surveys and predictions, while the market is a single number, with a convenient arrow next to it pointing either up or down. Even within what we call the economy, there are any number of differentiations and angles to view it from. The market? Pick your index, and it’s continuously updated during the day.

The present difference between the market and the economy has not been more significant, or more meaningful, in our lifetimes. Understanding that difference is critical, to understand the value of legislation, the impact of pronouncements from the government, and our expectations and plans. The following is a brief definition of the various terms, followed by a discussion of their practical application.

In This Corner, The Stock Market

The stock market is a generalized term that we use to define representations of the aggregate value of companies that are traded publicly, those companies whose stock can be purchased through financial institutions. The stock market is commonly measured by the Dow Jones Industrial Average, an index that is a compilation of thirty of the largest companies represented on U.S. exchanges. While most analysts prefer other, broader indexes, it is the 125-year-old Dow that the media refers to when it claims that the market went up or down. Presently sitting at around 24,500, the Dow is within a day’s movement from where it was a year ago before the coronavirus turned the world around. Other indexes, notably the NASDAQ, have recovered from the initial shock even further, matching levels seen as recently as early December of last year, just shy of its all-time high.

In a world where we are still in the middle of a pandemic, where tens of millions of American’s are unemployed, and where much of the economy is even shut down or open on a limited basis, the idea of the stock market being so close to its record best numbers seem irreconcilable. In reality, it’s relatively straightforward: the stock market primarily measures expectations of future individual corporate profits and health, rather than the present experiences and suffering of citizens.

Superficially, the stock market sees corporate financials being temporarily held up by meagre borrowing rates and massive government support; in the coming months, it considers an economy in recovery, perhaps not entirely where it was when everything came crashing, but close enough to keep up the previous optimism. It appears to discount any constraints on consumer spending, considering that such limits will be offset by a release of pent up energy when the country reopens. With its path through transition papered with new money, the stock market is looking past whatever the next few months bring, and is assuming that the virus will be tamed by either a vaccine or a treatment before there is too much more damage.

And in the Other Corner… the Economy

When the media refers to “the economy” it usually is referring (in general) to our unique system of moving goods, services and assets from one person or entity to another person or entity. The U.S. economy can also be seen as who is doing what, for whom they are doing it, and how much of it they are doing for what resulting gain. Neither of these descriptions encompasses the totality of the term, but they can help differentiate the term “economy” from the term “market” for these purposes.

When the virus hit America, it demanded everything. We retreated behind our walls, closing down most of our businesses, shuttering our schools and remaking our society overnight. Our economy, specifically the Main Street, consumer-based aspect of it, contracted wildly and reorganized away from proximity purchasing and towards online commerce, a direction that had been trending for years but never so fully exclusive. The movement of human bodies, whether for business, pleasure or shopping, ground to a complete halt.

The closing of American businesses left an unprecedented number of workers on the outside looking in. Some 39 million have filed for initial unemployment claims, a number widely considered to underestimate reality based on systemic delays in reporting and confusion by prospective claimants. That number, disproportionately including workers on the lower end of the earnings spectrum, meets or exceeds the level of unemployment last seen during the heights of the great depression, representing about 37% of the usual workforce. The reported unemployment rate of 14.7 is already outdated, showing a snapshot of a month past; most economists estimate the real number in the low to mid 20’s, another historically high level.

A whole cast of winners and losers have emerged not from some natural evolution, but from the immediate impact of the disease on that economy. Legislative solutions had a very limited effect, as the compromised logistics and fears of infection have complicated every attempt to help. Unlike the stock market, which is perched near its historic highs, the level of economic activity is approaching depths not seen in almost a century.

And By The Way, How Does This All Relate to the GDP (Gross Domestic Product)?

The GDP is a specific measurement of the value of everything produced, made and sold in the country over a given time period, usually measured in annual terms but reported quarterly on an annualized basis. There are a number of different ways to compute it, but it is a useful mechanism for understanding whether a national economy is moving forward or backwards. When the media discusses the economy, they often use the movement in GDP the way that they use the Dow, but they usually are referring to elements in the economy that are only tangentially related.

One of the limitations of using the GDP to evaluate this period is that it doesn’t necessarily incorporate the real effects of unemployment; while employment does create a movement of value and breadth of services, a smaller workforce that is more productive, and engaged in higher-value production, can create a higher GDP than a larger workforce that is less productive, and less engaged in high-value work. There are dozens of nuances, but for this purpose, we’ll leave it there.

When we use the term recession, the specific definition is two consecutive quarters where the GDP declines, rather than grows. That definition means that — despite the economic carnage — we are not officially in a recession yet. We have one such quarter in the books — as the first quarter of 2020 came in at a - 4.8% negative growth — but we won’t have confirmation until after the second quarter (including April, May and June) is reported. It is widely assumed that we are in a recession.

As for depression, the inference is for a very deep and prolonged recession; a period where the GDP contracts for an extended time and by significant amounts. The Great Depression generally is considered from August 1929 to June 1938. a period where the GDP declined by a little over 50%. While some of our indicators (such as unemployment and business failures) are similar to that period, we lack most of the factors of a depression… so far.

Why Should We Care About the Difference Between the Market and the Economy?

In the current case, the difference is everything. The market doesn’t directly care about employment, quality of life, personal success unless or until it is represented in the profitability of the various companies. That’s why we see this scenario so frequently, in good times and bad: Company XYZ announces that it is laying off 20,000 workers. The stock goes up because the analysis is that the reduction in operating costs will result in greater profits for the company. The economy registers 20,000 added to the unemployment rolls, and the impact on the GDP is likely — but not definitely — negative.

The definitions of the economy that we tend to care most about are the parts that affect us directly. Are there jobs available, or is there a struggle to employ most of us? Are businesses opening or closing, are prices rising, are wages improving? When the evening news says that the economy is doing well, it’s all too often a statement that reflects something irrelevant or undefinable, such as a news report that a company announces a new plant opening; a positive sign, perhaps, but not nearly broad enough to matter.

So, Back to Our Opening Question: Economy or Market?

For the average person, the impact of a stock market rally is limited to an increase in the value of their retirement accounts. The loss of a quarter of the country’s jobs is a matter of some more relevancy; even if they aren’t affected directly, most will see some impact in their lives or their families. The differences to our lives between the two are not subtle.

There are other issues that reflect in the government responses in balancing the market and the economy. Far-reaching ramifications result in almost every decision made by the Treasury and the Fed these days, and in what the Congress creates and enacts. it’s critical that we interpret those choices being made on our behalf properly.

For Main Street, for rank and file America, the choice seems fairly obvious — policies, legislation and activity that supports the economy carries far more real value than those prioritizing the stock market, particularly in the short term. Both are required in the current situation, but the balance (and who benefits) can and should be reasonably questioned.

In choosing to support major corporations and financial institutions at the levels that they were before all of this, the Federal Reserve and the Treasury have potentially changed the face of our economy for a generation. The impact of this pandemic is being felt most severely by small businesses and independent contractors; storefront businesses across the nation were either closed or crippled, while some major retail entities were able to shift their focus and marketing to their existing online platforms or reduce their overhead by laying off their workforce and riding out the storm.

The Walmart Example

This is most evident in the recent financial releases by Walmart; Walmart earnings actually rose during that period compared to the prior year, reaching $4 billion; their e-commerce sales expanded 74%. Contrast that result with the estimated 7.5 million small businesses estimated to be facing bankruptcy across the country, and consider the likely outcome.

Walmart will consolidate its marketplace, growing into the vacancy left by the struggling storefronts. Their expansion will impose another obstacle to the recovery of those businesses, and will ultimately replace the entrepreneurs who owned those storefronts with minimum-wage employees at Walmart. Walmart stock will go up, lifting the market. In fact, Walmart’s shares have increased from 104 on March 23 (when support for the market began) to 125 on May 20, a rise of over 20%.

As the Walmart scenario plays out, taxable incomes (as store owners are replaced with Walmart associates) and capital investment will decrease, adding to the existing contractions in the commercial real estate marketplace. Millions of independent producers will lose their local or specialized outlets, and if they cannot successfully relocate to the internet, vanish. Out in the countryside, the largest agricultural and manufacturing enterprises will be incentivized to continue their recent consolidations, in order to service the greater percentage of the market controlled by fewer buyers.

Broader still…

While the storefront businesses will struggle for survival, with many losing that battle in the coming months, larger chains and dominant presences will emerge stronger and consolidate markets. Independent restaurants will be replaced by expanded franchises; many speciality shops and local markets will be driven online, assuming that their product or service permits. Investment in commercial properties will continue contracting, providing a prod to the ongoing deconstruction of our distributed retail presence.

It is widely recognized that small businesses have fueled much of the growth in the U.S. economy over the past two decades. Small businesses, the majority of which have less than 20 employees and are privately owned, account for about 45% of all economic activity in America. As many of those businesses close, others will move from physical locations to online outlets, expanding the value of companies like Amazon and the market value of shipping companies.

Ah, That’s Right… How Does Amazon Fit In Here?

Amazon, like Walmart, has benefitted greatly from the arrival of the pandemic. The obvious point — a nation forced to order much of what they need online — is a perfect storm for Amazon’s business model, and their recent numbers confirm it; revenues for the first quarter were a record $75.5 billion, an increase of some 26.5% over last year’s $59.7 billion. More importantly, Amazon is a smart company; rather than simply enjoy the flood of business and new customers, they’ve committed to reinvesting this quarter’s profits to upgrading their response to the coronavirus, improving employee safety and completing internal testing facilities.

This is not a public relations ploy — should the virus resurface this fall, as is widely anticipated, Amazon may very well be the last man standing in their area, and by that time capable of dealing with the crucial Christmas period effectively. Towards that end, Amazon has completed its ambitious 175,000 new hire program and is now set.

Like Walmart, Amazon’s massive capital base has allowed it to use this period — and the accommodative nature of the Federal Reserve and the Treasury — to expand and consolidate its position in the economy. They, along with other dominant companies, are living their best life right now, in the midst of the pandemic.

The government has set aside several trillion dollars to prop up the biggest companies in the world and to preserve the capital markets that they depend on daily. It has opened doors that in previous periods would have seemed like a dream — loose, fast, historically cheap capital without strings or size limitations. Main street businesses are being offered billions of dollars, but in formats and with restrictions that are causing many, particularly those in the hardest hit of industries, to painfully decline the offer. The government has made its choice — it has chosen the market over the economy.

If the Battle’s Over, What Does It All Mean?

It may well be too late to rebalance the scales. Already, Congress is stalling on the next stimulus package, one with much-needed capital for states and municipalities, setting up what promises to be an ugly and protracted negotiation. Meanwhile, the trillions that are already committed are locked and loaded, ready to be employed if things (read that, the stock market) struggle going forward.

The final tale, the reveal that will end the conversation about market versus economy, might come in the next few weeks. If the stock market holds its recent gains, and move up from this level, watch if certain government mouthpieces declare that the economy has — at least for now — survived its crisis, and is bouncing back. If that declaration is not accompanied by massive repatriation of unemployed; if the rationale is based on the new hires of the largest of companies; if the states and cities are told to fend for themselves, and small businesses pass without notice, then we’ll see the impact of the market’s victory.

The next chance that the rank and file of America will have to make a difference comes in November. Listen carefully to the programs and policies that your representatives support, and hold them to this simple test: do they help the stock market, or aid the main street economy?

Then vote.