Hope springs eternal on Wall Street. Each day brings news that the coronavirus threatens to become a Chinese if not a global pandemic with serious consequences for both the Chinese and the global economy. Yet each day the U.S. stock market manages to set new record levels thereby setting itself up for a rude shock when reality eventually sets in.
One has to be a supreme optimist to believe that the Chinese government is anywhere near to having the coronavirus under control. Even according to the official Chinese data, which tends to err on the optimistic side, over the past few days alone the number of coronavirus infections has increased some 40 percent, from 20,000 cases to over 28,000 cases. This already makes the current coronavirus epidemic very much more serious than the 2003 SARS epidemic, when a total 8,000 cases were reported. It is also hardly encouraging that people are being turned away from hospitals for want of adequate testing devices.
This exponential rate of increase in cases reported, coupled with the spread of the coronavirus beyond China’s borders, is inducing health experts like Scott Gottlieb, the former head of the U.S. Food and Drug administration, to warn that, unless preventative measures are taken, we could have a global pandemic on our hands.
It also makes it likely that the current coronavirus epidemic will have a very much greater adverse impact on the Chinese economy than the earlier 2003 SARS epidemic. That epidemic shaved a full 2 percentage points from Chinese GDP growth in the quarter in which it occurred.
The U.S. stock market is choosing to overlook the mounting evidence of how disruptive the coronavirus epidemic is already being to both the Chinese economy and to global supply chains. It is also choosing to turn a blind eye to the fact that, unlike in 2003 when China was a small economy, today it accounts for around 17 percent of world output, it plays a vital part in world supply chains, and it has become the world’s largest consumer of internationally traded commodities. As the world’s second-largest economy, when the Chinese economy stumbles we must now expect that the rest of the world economy will shudder.
Unfortunately, there is no shortage of evidence that the coronavirus epidemic is already exerting a major impact on the Chinese economy that is having global reverberations.
Chinese factories have been shuttered by a one-week extension in the Chinese New Year holidays, while Chinese trade has been impacted by a generalized cancellation of overseas flights into China. Foreign companies are repatriating their workers from China and major U.S. companies, like Apple, Tesla, and Starbucks, are temporarily suspending their Chinese operations.
At the same time, Hyundai has closed its South Korean automobile production plants for want of vital Chinese components, while European automobile producers are warning that they may be forced to do the same if the Chinese do not soon resume normal production. Meanwhile, international oil prices have plummeted by 20 percent for want of Chinese demand.
Yet another factor that makes the U.S. stock market’s coronavirus complacency all the more surprising is the currently very high valuation of U.S. stock prices. According to Nobel laureate Robert Shiller, over the past 100 years, the U.S. stock market has only seen today’s elevated valuations on three occasions. This would suggest that if the coronavirus does take a serious toll on the global economy, the rapid earnings’ growth implicit in today’s stock market valuations will not be realized. That in turn is bound to generate great disappointment.
In trying to time when stock markets might fall and come into line with reality, John Maynard Keynes famously warned that markets can remain irrational for much longer than you can stay solvent. But with the pace at which the coronavirus seems to be spreading and with the damage that it already seems to be inflicting on the Chinese and global economies, President Trump might be taking a big gamble in making the stock market’s performance a central plank in his reelection bid. He also likely will be proved to be mistaken in thinking that the U.S. stock market will retain its currently lofty levels through the first Tuesday in November.
Desmond Lachman is a resident fellow at the American Enterprise Institute. He was formerly a deputy director in the International Monetary Fund’s Policy Development and Review Department and the chief emerging market economic strategist at Salomon Smith Barney.