Goldman Shows What A Market Crash Will Do To The Economy

There is a simple reason why for the past decade, despite all the rhetoric central bankers have been focusing on just one thing - reflating risk assets in general and the stock market in particular - because if you get stocks higher, everything else will eventually follow; call it the "wealth effect and confidence pass thru channel."

This observation forms the basis of a report released overnight by Goldman's economics team, which claims that the 26% increase in the stock market since the start of 2017 "has been the most important driver of the recent easing in financial conditions, which are now at their easiest level since 2000", something we showed yesterday.

So what has been the stock market's contribution to the economic rebound since the Trump election? Here Goldman estimates that "higher equity prices are currently boosting GDP growth by nearly +0.6pp, and account for about two thirds of the +1pp growth impulse from overall financial conditions." 

Of course, the market impulse has to continue - i.e., the market has to keep rising - or else the economic response becomes muted: "Our base case is that the equity impulse to growth decelerates to +0.3pp by Q4 as equity price gains slow" Goldman explains.

For the econometricians, here are some further insights from Goldman on the favorable economic effect from rising stocks

We have argued that the most important reason for the acceleration in growth last year and for growth optimism in 2018 is the sharp positive swing in the impulse from financial conditions, which are now at their easiest level since April 2000. The run-up in the equity component of the FCI has accounted for rughly half of the 137bp index easing in 2017 and 80% of the of 32bp easing year-to-date (Exhibit 1).

Economic research has shown that rising equity prices boost activity, for instance via wealth effects on consumer spending. However, higher equity values not only cause but also reflect stronger growth... To deal with the reverse causation issue, we next use the VAR decomposition to isolate the boost to real GDP growth from the increase in equity prices driven by financial shocks alone. In practice, the estimated impulse from financial shocks to equity prices—shown in Exhibit 3—tends to equal roughly 60% of the mechanical contribution from equity prices, shown in Exhibit 2. We estimate that equity prices are currently contributing nearly +0.6pp to real GDP growth, up from -0.25pp in early 2016, as shown in Exhibit 3.


The stock market currently thus accounts for nearly two-thirds of the total +1pp growth impulse from financial conditions. A calculation based on the wealth effects literature—which finds that a $100 increase in financial wealth increases consumption by about $1.5 in the first year—gives similar results.

The excerpt above is all anyone needs to understand why central banks are always primarily focused on boosting asset prices: keep the confidence high, raise the "wealth effect" and spending optimism, and the economy will recover.

The problem, of course, is that we are now almost 10 years into the current market, and economic, expansion. Which begs the question what happens to the economy if and when the market meltup i) slows and ii) finally ends, leading to a crash.

To answer part one, Goldman writes that its baseline expectation "is for the equity impulse to real GDP growth to decelerate from +0.6pp currently to +0.3pp by Q4."

This assumes that the equity component of the FCI—equity prices normalized by a 10-year moving average of earnings per share (EPS)—stays at current levels, which is roughly consistent with our portfolio strategists’ forecast of a 2,850 S&P500 index and $150 EPS by year-end.

What about the worst case scenario: a sharp, 20% crash? Here is Goldman:

We first consider a sharp correction, where stock prices fall 20% in Q1 and stay flat afterwards, reminiscent of the 20% Black Monday crash in 1987. In this scenario, we estimate that the growth impulse from equity prices turns from a +0.6pp boost currently to a -0.5pp drag by early 2019 on a 4QMA basis, as shown in Exhibit 4. All other things equal, this bear market would still result in positive GDP growth in 2018 of 1.9% on a Q4/Q4 basis—significantly below our 2.6% baseline forecast—but have only a minor negative effect on growth in 2019.

Having brought up the nightmare scenario, Goldman then amicably concludes:

We conclude that the recent run-up in equity values is a key contributor to current strong growth, and that sharp stock market moves represent an important two-sided risk to our constructive near-term growth forecast.

In other words, the market will keep rising, pushing the economy higher, which in turn will be discount by the market, which will keep rising, and so on.

* * *

There are two fascinating observations with this analysis.

The first is that Goldman is now actively considering a Black Monday-style market crash scenario and its impact on the market. Naturally, the mere consideration of this outcome is enough to "incept" the though among Goldman's client who will now wonder why Goldman even had to bring it up.

The second, of course, is that contrary to Goldman's assumptions, "all other things" are never equal, and should the S&P plunge 20%, something it hasn't done in a decade, it will unleash a waterfall of downstream consequences, which will hammer the economy so hard, we will skip recession and proceed right into the depression that has been deferred by trillions in central bank liquidity ever since 2008/2009.

It also means that Trump should probably stop highlighting where the S&P closes every day because with every passing day we get closer to the point where none other than Trump himself will be blamed for not only the next "Black Monday" collapse in the S&P, but the next Depression too.


LawsofPhysics Thu, 01/25/2018 - 10:39 Permalink

This reminds me of the Hank Paulson "tanks in the streets" threat...

Fuck 'em!!! Jump you fuckers!!!


Let's review shall we...  These bankers and financiers created and profitted from all the financial "products" that caused the financial crisis in the first place!!!!


Remind me, what CEOs and other high level managers went bankrupt and to prison again?

VWAndy Thu, 01/25/2018 - 10:39 Permalink

 OK now what would happen if we tossed all the bankers in jail before they crash this pig into our children and grand children?

Jim in MN Thu, 01/25/2018 - 10:40 Permalink

Wouldn't it be funny if the increased take-home pay led to debt paydown, thereby crashing the finance sector.


PAY BACK really does turn out to be a bitch.........

Dapper Dan Jim in MN Thu, 01/25/2018 - 12:38 Permalink

Jim it is amazing that 80 to 90 % of the people I know would not understand your comment,  and honestly I would not either if not for watching "the crash course" by Chris Martenson  and reading "the Creature of Jekyll Island" years ago (8)


you and I have have been here that long, I have enjoyed yours post immensely. 

In reply to by Jim in MN

Chupacabra-322 charlewar Thu, 01/25/2018 - 11:01 Permalink


Personally, I don't know why I continue to waste my time posting here. Based on the following I posted quite sometime ago.


The vast majority of ZH's especially the veterans here understand fully that there are no more "Bear or Bullish" markets. There's only Fascism & Ponzi.


"If central banks purchase stocks in order to support equity prices, what is the point of having a stock market? The central bank’s ability to create money to support stock prices negates the price discovery function of the stock market."
-Dr. Paul Criag Roberts


"These questions came to mind when we learned that the central bank of Switzerland, the Swiss National Bank, purchased 3,300,000 shares of Apple stock in the first quarter of this year, adding 500,000 shares in the second quarter. Smart money would have been selling, not buying.


It turns out that the Swiss central bank, in addition to its Apple stock, holds very large equity positions, ranging from $250,000,000 to $637,000,000, in numerous US corporations — Exxon Mobil, Microsoft, Google, Johnson & Johnson, General Electric, Procter & Gamble, Verizon, AT&T, Pfizer, Chevron, Merck, Facebook, Pepsico, Coca Cola, Disney, Valeant, IBM, Gilead, Amazon."

-Dr. Paul Craig Roberts

In reply to by charlewar

Hillarys Server Thu, 01/25/2018 - 10:45 Permalink

I'm certain of only one thing.

Namely that if the economy crashes and my roll of silver dimes, which I've been holding like a security blanket every night for the past ten years, doesn't go up as promised I will gently place the small disk shaped bullion up my anus and jump off a bridge.

Jim in MN Hillarys Server Thu, 01/25/2018 - 10:54 Permalink

I recall back in the day there was a railroad bridge over the Mississippi between Minneapolis and St. Paul.  We would sneak around the iron fencing on the shore and onto the catwalk under the main span....after a while one reached two concrete and limestone pylons that the bridge sat on, fifty feet or so above the river.

There, on the concrete flat top of one pylon, was a little message actually written in white-out if I recall correctly.  It was a small white circle and the message:

"10 cents a jump"

In reply to by Hillarys Server

Hillarys Server Easyp Thu, 01/25/2018 - 11:05 Permalink

Too late, already promised the dime insertion to xHamster and the great leap forward to LiveLeak.

And Stefan Molyneux is preparing

"The Truth About That Zero Hedge Guy's Silver Dime Filled Anus"

as we speak.

Peter Schiff and Harry Dent have scheduled a debate on whether my butt at the bottom of the ocean will inflate or deflate.

Jordan Peterson has declared my rectum a new Jungian archetype and will announce a mandatory new pronoun for it shortly.

And Richard Spencer has organized a candle vigil for my butthole.

"Poos will not replace us! Poos will not replace us!"

As well as a pee strike.

"No justice no pee! No justice no pee!"

In reply to by Easyp

VWAndy Hillarys Server Thu, 01/25/2018 - 11:19 Permalink

 Stefan has been on a roll of late. He is picking up steam too. Thats one bright spot I for one am very happy to see.

  I think Stefan and many others are starting to catch on to how much we can do with the interwebby. We have far more power if we use this tool well than most can imagine now. A few good people are leading the way by showing the world how real debates should be done.


  a real debate

In reply to by Hillarys Server

vofreason Hillarys Server Thu, 01/25/2018 - 11:19 Permalink

Buy some lube.  They will get crushed before they go up, if they're even allowed to do that.  I know, I know all the arguments but whatever is keeping them down is doing a great job.  Maybe the "big reset" does happen but more likely an 08 style thing happens and they get cut in half and then go back to where they are now with the onset of QE forever.

In reply to by Hillarys Server

tahoebumsmith Thu, 01/25/2018 - 10:52 Permalink

The Wealth Effect is only on paper but the debt people take on because of it is real. The irresponsible monetary policy by Central Banks has put the entire Globe into a terminal debt spiral which will eventually crash and burn as this debt can never be paid back it's simply mathematically impossible.

espirit Thu, 01/25/2018 - 10:52 Permalink

Everybody gets a participation trophy and goes to the top of the thread by default.

Nice going Tylers.

On a long enough timeline the survival rate for ZH drops to zero.

3-fingered_chemist Thu, 01/25/2018 - 10:53 Permalink

There will be no market correction. They will just turn off the computers and then do a "system restore" to the day prior after the central banks come out and say we've got this. 

DOW 100,000.

vofreason EcoJoker Thu, 01/25/2018 - 11:16 Permalink

I'm all about PM's in theory.....but c'mon, you gotta stop saying this stuff as reality just hasn't allowed it.  Whether it's manipulation or not PM's have been a terrible investment and even if you held stocks and they fell 50% at this point your dividends made up a lot of that and you can still hold your stocks.  It pains me to say it, it does, but it just hasn't been smart to only hold PM's.  I mean will they eventually be worth a lot?....maybe?  But what's your time horizon because we've been saying this for decades and that's a lot of missed wealth.....and yes if you have money that can buy things in America right now it is wealth.  You can't go to the Ferrari dealer and say "in theory this sack of gold is real money and should be able to buy this car here".

I'm just saying.....until it happens take the edge off the PM cheering....we've been wrong so we need to respect that and we need to sit back and wait until that moment arrives ......if ever ......given the fact that I don't see the powers that be just giving up.  Is it really going to be that sweet when 30 years from now after living a life of poverty and ridicule you're an old man saying "I told ya so" with no time to enjoy it?

Just tone it down is all I'm sayin.

In reply to by EcoJoker

CRM114 Thu, 01/25/2018 - 10:58 Permalink

The economy, either in the US or worldwide, is nothing like as strong as the BS numbers would have people believe.

The ripping off of the middle class by the rich, the hand-to-mouth existence of the poor, and the continual increase of Government (not least in regulation) are all fundamentally inefficient. This kills any economy.

Furthermore, the dominance of Government leaves a population increasingly unable to cope with a recession, it kills resilience.

So, when the crash comes, it's going to be far worse than 1929.

Consuelo Thu, 01/25/2018 - 11:05 Permalink

All this Goldman divination of what dreams may come, and nothing said about a hot trade war or gold as a looming strategic weapon...    U.S.-as-center-of-the-economic-universe thinking at its finest.   When the smack-down does hit, even the brightest at Goldman are set to be caught flat-footed.

Son of Captain Nemo Thu, 01/25/2018 - 11:06 Permalink

"Whisper words of wisdom"... LET IT BE!... LET IT BE!!!...

Can't wait to see "America" in all it's vain glory when it loses it's "BTC shirt" as a tribute to it's own avarice and greedy self-destruction.

Amphius1 Thu, 01/25/2018 - 11:13 Permalink

"Trump should probably stop highlighting where the S&P closes every day".

Trump is likely not to understand that pride comes before a fall.