Peter Morici: The economy, stock market don't have me panicking. Here's why

Sometimes the stock market gets it wrong.

Facebook’s woes, fears President Trump will start a trade war and the Federal Reserve cautions about inflation sent the equity markets to its sharpest one week drop in two years—most of that is unwarranted.

Facebook is hardly central to the U.S. or global economy. It’s a handy contraption for keeping up with family and friends. I expect that Facebook users and executives will adjust to ensure personal data is reasonably protected and in the long run its advertising revenues may decline.  

However, social media is not like web tools for collaboration or on-line shopping, which made the economy more efficient. Rather, it mostly shifted eyeballs and advertising revenue from electronic and print media to the web. Whatever ad dollars social media loses will move to other venues.

If Facebook, Twitter and other social media profits and stock prices are permanently curtailed, then traditional advertisers’ profits and the underlying stock values will improve.

President Trump did not start a trade war—China did!

His aluminum and steel tariffs and the subsequent exemptions for the EU, Canada, Mexico and some others served to finally focus our allies’ attention on how China is really cheating on the rules of trade.

His tariffs and investment restriction directly focused on China may be imperfect but overall the volume of trade affected by the tariffs is miniscule as compared to the size of the U.S. economy. Those are not likely to affect supply chains adversely.

Economic growth has averaged nearly 3 percent and corporate profits have surged over the last three quarters. The S&P 500, which includes about 80 percent of the publicly traded equities in America, is trading at 25 times earnings—just about their 25 year average.

Unemployment stands at 4.1 percent—well below the sustainable level of 4.6 percent, as computed by economists who worry about such things.  According to the Philips Curve, a doctrine adhered to by most practitioners of the dismal science, wages and prices should be flying out of control, and the Federal Reserve should be aggressively raising interest rates.

Neither has happened.

Wages are rising about 2.7 percent a year but factoring in productivity growth, that translates into long-term inflation of less than the Fed’s target of 2 percent.

Unemployment is depressed because millions of prime working aged adults have opted out of the labor force. President Obama expanded access to Medicaid and food stamps and enabled lax enforcement of standards for Social Security disability pensions, permitted millions to choose a life of genteel poverty playing video games and watching daytime TV.

Now, somewhat higher wages are gradually luring those folks back into the labor market. The prime working age participation rate—those adults between 25 and 54 participating in the labor market—has been gradually recovering since the fall of 2015.

During the recent recovery, several factors other than unemployment have held down inflation—expanded competition from imports, increased price competition enabled by internet commerce, and commodity prices depressed by excess capacity from the overhang of the Great Recession and the revolution in U.S. oil production.

Those have mostly run their course, and we are going to have moderate inflation no matter what the Fed does about interest rates, unless Fed Chairman Powell is bent on radical actions that would thrust the global economy into the great abyss again.

I doubt he is much interested in that and consequently, we can look forward to a period of inflation closer to the Fed’s 2 percent target than in recent years, the Fed gradually raising interest rates and the stock market eventually settling down and accommodating both.

And we have good reason to believe that robotics and artificial intelligence are about to dramatically boost productivity growth. That will also enable faster wage growth and give the Fed a big assist keeping down inflation.

The Fed is targeting three, perhaps four, small interest rate increases each year until the overnight bank lending rate reaches about 3 percent. That should put the 10-year Treasury and 30-year fixed mortgage rates at 3.5 and 4.0 percent by early 2020.

The economy and stock market have sustained robust performance at much higher rates.

Relax—the world is not ending!

Peter Morici served as Chief Economist at the U.S. International Trade Commission from 1993 to 1995. He is an economist and professor at the Smith School of Business, University of Maryland.