How does the stock market affect the economy?


Movements in the stock market can have a profound economic impact on the economy and individual consumers. A collapse in share prices has the potential to cause widespread economic disruption. Most famously, the stock market crash of 1929 was a key factor in precipitating the great depression of the 1930s. Yet, daily movements in the …

Read moreHow does the stock market affect the economy?

What caused the Wall Street Crash of 1929?

The 1929 stock market crash was a result of an unsustainable boom in share prices in the preceding years. The boom in share prices was caused by the irrational exuberance of investors, buying shares on the margin, and over-confidence in the sustainability of economic growth. Some economists argue the boom was also facilitated by ‘loose …

Read moreWhat caused the Wall Street Crash of 1929?

Effect of falling share prices on the economy

How do falling share prices affect the economy?

  • Lower share prices mean investors will see a fall in wealth. However, this is unlikely to influence consumption significantly. Most people who buy shares are relatively affluent; if their stocks decrease in value it doesn’t mean their consumption will suffer. Usually, people who buy shares see it as speculative investment.
  • Nevertheless, if the fall in shares is prolonged it will have a small effect in reducing consumer spending.
  • In the long term, lower share prices will harm investment trusts and pension funds. This could leave people with lower pension payouts. However, this is very much a long term factor.
  • More difficult to raise finance for investment. Some firms use the stock market as a way to raise finance for investment. If share prices fall, it will be more difficult to raise equity through share issues and so it could reduce investment. However, this is only a relatively small influence on investment levels.

    Read moreEffect of falling share prices on the economy

Stock Market in 2008

Already since the start of the year the FTSE-100 has fallen 7%. Yesterday, the stock market fell 3% of 190 points on fears related to the growing credit crunch. In particular, American bank Citibank wrote off $18billion from its mortgage defaults. It hopes this will draw a line under the losses in the derivatives market.

Although, mortgage defaults in the UK are not such a problem in the UK. The UK is been squeezed by the shortage of capital as investors are unwilling to risk purchasing any ‘subprime’ related debt. This has caused the cost of borrowing to increase, it means that mortgage costs have increased despite the cut in interest rates.

What Factors Will Affect the Stock Market in the Coming Year

  1. Slowdown in Growth. A slowdown in growth is now widely expected. Lower growth will lead to smaller profits and therefore lower earning this will have a negative impact on share prices. However, the lower growth is probably already built into the share prices. Often stock markets can do surprisingly well in recessions – usually because the stock market anticipates the falling growth

    Read moreStock Market in 2008

Item added to cart.
0 items - £0.00