Tax Cuts Crash Market (?)

Here’s why its so dangerous to read specific elements into the day to day gyrations of Mr. Market: Consider this hypothetical news article:

"On Thursday, Congress extended for two years the 15% tax rate on capital gains and corporate dividends, scheduled to expire on 12/31/08. They also extended for one year a "patch" on the alternative minimum tax, or AMT.

Market participants, concerned about burgeoning US deficits, promptly sold off. The Dow dropped nearly 150 points, while the Russell 2000 lost 2.38%. Tech stocks were also hard hit, as the Nasdaq dropped more than 2% and the NDX 100 2.20%.

The consequences of the Tax cut and increasing American debt were felt as far away as Japan, where the Nikkei Dow lost 2.3%."

I’m (obviously) being sarcastic. I don’t believe the markets cared one bit about the tax cuts. But if the markets didn’t sell off, you can be sure our pal Stephen Moore would have been out crediting any rally to the congressional action.

Bottom line: The mechanisms and forces driving Markets are far too complex and forward looking  to credit or blame any single element for any given day’s trading. Something to remember the next time you hear someone say Markets did ____ because of ____.

Print Friendly, PDF & Email

What's been said:

Discussions found on the web:
  1. Ned commented on May 12

    Article I have never seen? “Markets drop as selling swamps buying.”

    Do you really need a reason? or five?

  2. Idaho_Spud commented on May 12

    The markets tanked because fear briefly replaced greed.

    When a permabull actually capitulates, a state of “perpetual greed”, has been replaced by despair, but usually not with a sense of humility.

  3. dave commented on May 12

    Barry, It is a simple case of herd mentality. Day traders with their finger on the trigger following the market trend. They look no further than the end of their nose and could care less about the macro environment.

  4. B commented on May 12

    That would work if a couple of foreign currencies didn’t start hitting the skids months ago as had the middle eastern exchanges now down 40%. Or that the Nikkei cratered 3.5% in a day a week or so ago and no one said anything. That’s like 400 points on the Dow in one day. Nothin reported in the good ole US of A. Or that Russia was down 3% the day before. All of this speculation has caused a goddamn mess globally. The Fed needs to pause. Commodities will go up till they no longer go up. That is when global demand is pinched and they crater, thus causing no threat to long term inflation. Their mandate of price stability also applies to housing. If that market truly craters, we’ll see one hell of a mess that will make the input prices of commodities look like a Christmas party. As angrynch said, I think gold could go higher. It needs to correct IMO but people who buy into this new global economy creating a secular bull market for commodities are f’idiots. Russia’s equity market is up 300% in 12 months. That’s the new normal?

  5. Idaho_Spud commented on May 12

    The BLS specifically looks at *rents*, not housing, in order specifically to screen out reported inflation. And oddly enough, rents are not going up significantly.

    So with that in mind, what do you think Bernanke will do? Is he a man (as in Volcker) or a mouse (as in Burns)? We will soon know for certain.

    The dollar is under attack and it will take a lot more than 5% to make it stick where it is right now. And that will crush the economy. Heck it’s probably crushed already. Poor old indebted Joe Six can’t even withstand 5% overnight rate FF rate anymore.

    Bottom line, gold will and interest rates need to go a lot higher than anyone thinks. It’s a bubble alright – a liquidity bubble.

  6. vf commented on May 12

    does anyone have any long term charts of the DXY? from what i’ve seen 80.00 represents over 30 years of support and we’re only 4.5% from that level.. will be interesting to see if the FX market can test it..

  7. B commented on May 12

    Burns got his head handed to him by out of control Federal government spending, globalization, a dollar crisis and a post equity bubble inflationary mess. History has been very unkind to a man put in a no win situation. You say he was a mouse? Well, he raised short term rates to astronomical levels in the early 70s in an attempt to snuff out inflation, a housing bubble and a commodities explosion.

    Sound familiar? Did his attempts at controlling inflation by inverting the yield curve by 300 basis points solve our problems? What they did was set off economic shocks that created boom/bust cycle with short spurts of growth followed by recessions. Overall corporate profits were better than the 90s but the markets developed schitzophrenia.

    So, should Bernanke keep raising rates? The answer is not so simple. Doing so would surely crater housing. At a time when GDP could be falling off of a cliff. You also assume he wants to defend the dollar. Bad assumption. Especially with former Fed governors coming out this week saying we need a weaker dollar in support of the G7 statements, Snow’s statements and Feldstein’s statements.

    That may be a correct or incorrect policy and a drop in the dollar will shake the global markets but……… should consider the other side of the equation. It is never so simple.

  8. jkw commented on May 12

    I’m not sure that the fed can save housing no matter what they do. If they don’t raise rates, the dollar will probably drop and foreigners will probably sell their treasuries, causing long-term rates to rise. If they do raise rates, the carry-traders will sell off the long bonds until the yield curve is normal (if they have enough influence on the bond market). If house prices just stabilize, banks might start getting stricter about who they give loans to. If easy money goes away, people will not be able to afford houses at current prices in most cities. Real house prices have to fall unless rates continue to drop.

    There are no good choices for the Fed. They will either get blamed for letting the dollar collapse or for popping the housing bubble. The time for action was 2 years ago, when Greenspan could have made speeches pointing out that if you can only afford to buy a home using an exotic mortgage at record-low interest rates, you shouldn’t expect anyone else to be able to buy it at a higher price in the near future. At this point, housing has to correct, either through nominal price drops or through inflation. I don’t know which is likely to cause bigger problems, and I don’t think anyone else does either.

    The only certainty now is that there is trouble ahead.

  9. B commented on May 12

    Not sure foreigners are going to sell treasuries in droves. they don’t buy them out of the kindness of their hearts. they buy them because they are buying dollars to support their export driven economies. that would shoot themselves in the foot.

  10. Mark commented on May 12


    Your QQQQ shorts are lookin’ good today! That half serious call for sell-off after the Fed decision was only a day late in coming.

    Lotta beta being sold today. Sea change?

  11. B commented on May 12

    Soon time for a rally. Have to see how the data unfolds but Turnaround Tuesday might be likely. Will it be feeble? And will it be temporary?

  12. VJ commented on May 12

    Obviously, tax cuts don’t crash the markets, but tax rate cuts do appear to crash, or at least severely slow, our economy. The American national economy entered recessions following the tax rate cuts of 1981 and 2001, and slowed rather dramatically less than 18 months after the tax rate cuts were enacted in 1964.

    Counting down to when Stephen Moore’s head explodes.

  13. jkw commented on May 12

    I don’t think anyone can show a strong correlation between tax changes and economic growth (in either direction). There is too much coincidence for any causality to be determined. When Bush’s cuts were first being planned, we hadn’t yet entered a recession. You could say they caused it, but it was already in the works (and predicted by many people).

    Has anyone ever done a good study on how much taxes actually change behavior? It is very hard to compare different countries or time periods because too many things change.

  14. spencer commented on May 12

    jkw — since we first introduced the income tax in 1916 the correlation between the marginal tax rate and real gdp growth has been a postive 0.01 — both insignificant and in the wrong direction. If you lag it one year the correlation increases to a plus 0.02.

  15. George commented on May 12

    Clinton raised taxes in the early nineties, and whomp, there ya go in equities. A Jonathan Rauch commentary in Jun 06 Atlantic Monthly points out that tax cuts don’t appear to “Starve the Beast” and reduce the size of government spending, instead they make government look cheap and people buy more of it. He sums up: “The conservative movement is in no position to accept or even acknowledge those implications… By turning a limited-government movement into an anti-tax movement, conservatism has effectively gone into business with the Big Government that it claims to oppose. It is not starving the beast. It is fueling the beast’s appetite. And the beast has a credit card.”

    William Niskanen looked at the level of taxes that neither cause an increase or decrease in gov. spending, and it was about 19%of GDP. We’re less than that now, and spending has ballooned under GWB. Republicans are still spouting their voodoo sh*t, and honestly I just have to shake my head. I take comfort that it’s good for me personally, but they are screwing up America something fierce.

    BANG! BANG! <-- heads exploding.

  16. pseudolus commented on May 13

    uh, guys? Cavuto says USAToday publishing a whistleblower’s story about the NSA data gathering activities caused the 2-day drop. Gosh, I believe him, don’t you? [/snark]

  17. C commented on May 17

    “Bottom line: The mechanisms and forces driving Markets are far too complex and forward looking to credit or blame any single element for any given day’s trading. Something to remember the next time you hear someone say Markets did ____ because of ____.”

    We hear this every day from virtually every journalist who covers the markets. They have to write SOMETHING!

Read this next.

Posted Under