Strong US economy means no rescue for falling stocks

Solid GDP figure means Fed will keep raising rates even if market tumbles

By guest author Justin Lahart from Wall Street Journal

Good news, investors: You don’t need to worry about the economy. Bad news: The Federal Reserve doesn’t need to worry either.

The economy was strong in the third quarter, with the Commerce Department reporting on October 26, 2018, that gross domestic product grew at a 3.5 % annual rate. That was down from the second quarter’s 4.2 %, but a touch better than the 3.4 % economists were looking for. Investment slowed, but consumer spending picked up, as a strong labour market continues to put more money in Americans’ pockets.

With the recent travails of the stock market, this might have counted as good news. But stocks fell Friday, as investors reacted to disappointing results that came out after October 25, 2018 closing bell, including from and Alphabet parent Google.

Part of the problem: While the U.S. is doing well, economies elsewhere, including China’s, are showing signs of softening. That presents a challenge for multinational companies, which book many of their sales overseas—and are also having to contend with the effects of a stronger dollar.

The other big problem for stocks is the Fed, which expects to raise rates again in December and to keep raising them next year. The higher rates go, the less attractive stocks will be relative to safe alternatives such as Treasurys and savings accounts. Moreover, for the Fed to meet its goal keeping the unemployment rate from falling to the point where the labour market is at risk of overheating, it probably would not stop raising rates until the pace of hiring cools off.

The other thing that might keep the Fed from raising rates is if the stock market keeps falling, but it would have to fall to the point that policy makers worried that the decline posed a serious threat to the economy. As Bank of America Merrill Lynch economist Ethan Harris points out, the Fed is much less worried about economic fragility than it was in 2016, when it hit the pause button after some steep stock declines. Nor does the drop in stocks seem likely to ruffle consumer confidence—not with a 3.7 % unemployment rate.

Unless something really changes, the Fed is going to keep raising rates, and stocks will have to find their footing on their own.