Share market turmoil: Why the fall may be a blessing disguise

Share prices, especially in the US, had got entirely out of whack with economic reality.

Share prices, especially in the US, had got entirely out of whack with economic reality.

If ever there was a time to breathe a sigh of relief following a stock market mini-crash, this must be it.

Share prices, especially in the US, had got entirely out of whack with economic reality. And they still are. Even following the recent downward correction over the past couple of days, the US S&P500 is still an extraordinary 37 per cent higher than it was just two years ago.

Now, what in your life has gone up 37 per cent over the past two years? Perhaps you power or child care bills, but that’s about it. Americans wages have practically gone sideways too. Even in Australia, by the end of today’s “blood bath’’, share prices, represented by the benchmark ASX200 index, are on track to be almost 20 per cent higher than they were in February 2016.

Economists have tried to explain the soaring share values by pointing to Trump’s large corporate tax cuts, or invoking the imminent productivity boom on the horizon from digital technology.

There’s no doubt the slashing of the corporate rate in the US from 35 per cent to 21 per cent has mechanically ratcheted up the price of shares (because the dividend streams they represent are worth more).

But the major culprits for this roller coaster ride are central banks in Japan, US and Europe, who sowed these seeds long before Trump was elected president. The fact is they have pumped trillions of euros, pounds, yen and dollars into financial markets for years. And in recent months the biggest of them all, the Federal Reserve in Washington DC, has made it clear it’s slowly turning off the tap. It seems inflation and even wages in the world’s biggest economy are starting to rise.

This latest reversal in prices was always inevitable, once the QE funny money started to recede.

Australia stuck to conventional central banking but it won’t be spared. Indeed, the falling of house prices could accelerate as equity prices fall. Just as a US Treasury bond pays a regular coupon, so does a house in Melbourne: called rent. If the rise in US bond and share prices has pumped up house prices globally, they too might start to fall in sympathy.

There’s a silver lining to all this. Lower income workers and younger people have seen a huge loss in relative wealth over the past decade. As sophisticated as their smartphones have become in that time, the huge loss in relative position has upset many of them.

So, if this fall in share prices avoids an outright rout, it could be a blessing in disguise. Even if prices do walk off a cliff, remember they dropped more than 25 per cent in a single day in 1987 without major effects on the economy.