Sell-off on Wall Street: Why it is happening and what it says about the economy

It’s nail-biting time on Wall Street.

Stocks had been dropping at worrisome rates for several days, but on Monday things went from concerning to panicky. At one point, the Dow Jones industrial average plunged more than 1,200 points, on a day when equity markets tumbled across the globe. It closed down 1,034 points, or 2.6%.

Technology stocks have been hit particularly hard lately: The Nasdaq composite was, for a moment on Monday, down more than 10% since the middle of last week, entering into what economists euphemistically call “correction” territory.

The sudden pullback has jolted investors and raised questions that go beyond financial markets to questions about the underlying health of the economy.

And even when things level out, the window-rattling downturn threatened to kill the political euphoria that has swept over Democrats since President Biden withdrew and Vice President Kamala Harris emerged as the party’s standard-bearer.

So what’s happened and what may be next? Here are first-draft-of-history answers to some of the crucial questions:

What’s causing the current plunge in U.S. stock markets?

Economists point to several factors behind the sell-off. To begin with, tech stocks were overdone, pushed beyond their underlying value by the artificial intelligence craze. Hence the Nasdaq correction. Nvidia, Apple and Intel were among big losers Monday.

And Friday’s jobs report, which showed a sharp slowdown in hiring and jump in unemployment in July, set investors — even those not deep into tech — on edge. That came on the heels of news that jobless claims, a proxy for layoffs, increased significantly in the waning days of July.

It hasn’t helped that the Federal Reserve has been reluctant to start cutting interest rates, which have throttled inflation as intended, but also weighed down businesses and consumers.

Then there’s the reverberation from global markets. On Monday, Japan’s once-high-flying stocks took their worst drubbing since Black Monday in 1987. The huge losses were seen, in part, as being a reaction to market declines and growing concerns in the U.S.

“It’s an unfortunate sequence of events that causes selling, selling, selling,” said Christopher Rupkey, chief economist at Fwdbonds, a research house in New York.

How have stock markets in the U.S. performed overall this year?

Even with Monday’s panic-selling, stocks generally are up for the year, many way up.

Both the broader Standard & Poor’s 500 and Nasdaq are still more than 9% higher compared with the start of the year. The Dow is the laggard, up only 2.6% since Jan. 2.

Stocks have benefited from strong corporate earnings; investor excitement over AI’s growth and potential; and the expectation of Fed interest rate cuts, said Mark Zandi, chief economist at Moody’s Analytics.

“This is still, at this point, a garden-variety correction,” Zandi said of the current turmoil, though he added that the situation warrants careful watching. “Things can take on a life of their own.”

Should I be worried about a recession?

Not yet, maybe never.

The classical definition of a recession is two straight quarters of declining gross domestic product. The latest, second-quarter GDP, after adjusting for inflation, was up a strong 2.8%.

Almost every economist agrees that you can’t have a recession without job growth turning negative for some extended period. And the U.S. economy hasn’t come close to that point.

Employers have added jobs every month since January 2021, when the economy began to recover from the pandemic. Most recently, in July, job growth came in below expectations, but at 114,000 new payroll hires, that was still solidly positive.

“I don’t see the underpinnings of an economic downturn,” said Jack Ablin, chief investment officer and founding partner at Cresset Capital.

Can anything be done to arrest the decline in stocks?

To quell the sell-off, some investors have urged the Fed to cut interest rates now, in a kind of emergency move ahead of the central bank’s next scheduled meeting in mid-September.

Fed officials have taken such steps before, during the pandemic and the Great Recession, for example. But analysts doubt that the policymakers will intervene unless markets keep faltering badly; making an emergency cut could make things worse by frightening people and causing a market meltdown.

“It’s certainly not a hair-on-fire moment,” Zandi said.

What are the risks going forward?

With more people on edge about the economy, further declines in the stock market could erode confidence among businesses and consumers, leading to a pullback in hiring and spending. That would be a psychological development, but economies are not immune to the fears or the hopes of their human components.

Consumer spending, which drives the U.S. economy, has held up very well in recent years, thanks to steady job and wage growth. But there are indications from companies such as McDonald’s and Starbucks that consumers are becoming more cautious.

Higher-income households account for a disproportionately big share of spending, which has been supported by rising gains in home and stock prices. A sharp drop in stocks would have the reverse impact, a so-called negative wealth effect, making richer households more averse to spending, which could lead to a recession.