The stock market finished second quarter higher with large-company stocks up 4.3%. Small-company stocks finished lower, down 3.3%, and foreign stocks were also down 0.4% for the period. Bonds were up 0.5% as traders weighted the probability of Federal Reserve (Fed) interest rate cuts later this year. The stock market has been supported by a combination of rising company profitability and on-again, off-again hopes for interest rate cuts later this year. The attention to interest rates is warranted as the stock market can perform well during periods of rate cuts as this tends to stimulate economic activity.
A consistent run of Fed interest rate hikes from early 2022 through mid-2023 took rates to a historically high level, where they remain. The series of rate hikes has been central to the Fed’s efforts to bring down inflation. Though, interest rates that run too-high for too-long could slow the economy excessively and result in an economic recession in the U.S. As The Wall Street Journal recently noted, “When rates are low, borrowing supports spending. High rates can choke-off that spending.”
Indeed, a number of economists and others have predicted a recession in the U.S. for months now. Historically, it is common for Fed rate hike cycles to culminate in a recession due to their businessdampening effect. So what has kept recession at bay this time? The unusual nature of the pandemic-induced economic downturn four years ago combined with the aggressive governmental economic stimulus efforts that followed explains this economic resilience. Recall that the Fed slashed interest rates dramatically at the onset of the pandemic in early 2020. In addition, at that time the federal government launched a variety of economic stimulus programs that flooded the economy with cash, which in turn fueled abundant consumer spending—Sprinter campervan, anyone? The economy was heating up and inflation was soon to follow.
“Should inflation remain stubborn, prospects for rate cuts may be put off into next year.”
To cool things off, the Fed began raising rates in early 2022 just as the American consumer was still feeling flush from pandemic stimulus payments, rising home values, and low unemployment. As such, many consumers were spending freely with money they had on-hand, and they didn’t need to use as much credit. As consumers didn’t need to borrow money to spend it, the higher interest rates on borrowing failed to deter spending and consumption, which continued to fuel the economy. Herein lies at least part of the explanation for the economy’s buoyancy in the face of Fed rate increases. Looking forward, many economists are forecasting at least one rate cut this year. Should inflation remain stubborn, prospects for rate cuts may be put off into next year.
Those following the financial press are aware that socially responsible investing (SRI) is under withering fire from the conservative right. Certain politicians in red states like Florida and Texas have moved aggressively to punish companies that they say are improperly taking responsibility for their social and environmental impacts when they should be focusing exclusively on maximizing profits. Such critics decry any view of business that would integrate rational societal concerns in corporate decision making. This view seemingly places the interests of corporate shareholders at odds with the common good.
Whatever one’s political stripes may be, we can recognize that in modern times humankind and the world of commerce are indeed highly integrated. People are the owners, employees, and customers of businesses and inhabit the communities and natural environment in which they operate. At the same time, businesses supply humanity with many of the essential products and services of modern life. The two are interdependent and as such we share a common responsibility to improve human welfare, provide a healthy and just economy, and protect our shared natural environment. It is only reasonable that businesses should opt to prioritize sustainability and environmental preservation in their decision-making processes. Likewise, it is only reasonable that people should prioritize investment in businesses that are doing so.