Is the Stock Market Now ”Too Big to Fail”?

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Who knows what will trigger Fed intervention; that information is asymmetric, i.e. only known to Fed insiders.

Correspondent Bart D. recently speculated that the U.S. stock market was now “too big to fail,” that is, that it was too integral to the global financial system and economy to be allowed to fail, i.e. decline 40+% as in previous bubble bursts.

The U.S. stock market is integral to the global financial system in two ways. Now that investment banks, pension funds, insurers and multitudes of 401K retirement plans are dependent on current equity valuations, a crash would impair virtually the entire spectrum of finance from hedge funds to banks to insurers to pension plans.

A decimation of these sectors would impact the U.S. economy and thus the global economy very negatively.

By turning the health of the economy into a reflection of the stock market, the Status Quo has made the stock market into the one bellwether that matters. In effect, the stock market is now integral to the economy as a measure of sentiment and evidence that all is well with the economy as a whole.

The stock market is now the signal everyone follows: if stocks are rising, we’re told that means the economy is healthy. Conversely, if stocks decline sharply, the implication is the economy is weak.

In other words, it’s not just valuations that make stocks integral to the economy and Status Quo–the market’s signaling is now the key to sentiment. In economist Michael Spence’s work, the information available to participants is asymmetric: roughly speaking, those on the “inside” have better information than those on the “outside.”

The stock market addresses this asymmetry by signaling what’s really going on via price: if the market sells off, that tells even those with little other information that all is not well in the economy.

A rising market sends the opposite signal: everything’s going well. If the participant isn’t experiencing good times himself, he will still defer to this signal, reckoning that his own financial stagnation is an anomaly rather than the norm.

This explains why a rising stock market is now essential to the Status Quo: if the market reverses, everyone who sees mostly stagnation in their corner of the economy will realize that is the norm, not a local aberration.

If the stock market is now too big to fail, the Federal Reserve will have to prop it up whatever the cost. Ultimately, this may require indirect purchases of stocks–an action that other central banks are already pursuing directly or indirectly via proxies.

This shouldn’t surprise us. After all, the Fed directly bought $1.5 trillion in mortgages (mortgage backed securities) to prop up the housing market, and a few trillion dollars in Treasury bonds to push interest rates down.

Just as a speculative guess, perhaps the line in the sand that will trigger Fed intervention is an extension of previous tops in the S&P 500: a line that is support that the Fed cannot let become resistance.

Just as a parlor game, let’s note that this line around 1,620 is about 100 points below the 200-week moving average at 1,711, which is about 200 points below the current level of 1,914.


Who knows what will trigger Fed intervention; that information is asymmetric, i.e. only known to Fed insiders. Perhaps a break below 1,711 will cause the Fed to ready its financial blitzkrieg.

A drop to 1,620 or so would represent a 23+% decline from all-time highs–a decent correction by historical standards, but one that–if reversed in short order–would not necessarily trigger a financial meltdown.

That cannot be said of a drop that erased 50+% of the SPX’s current value. If the market is indeed now too big to fail, the Fed will be forced to take unprecedented action if the decline hurtles past correction to carnage and full-blown meltdown.

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Contributed by Charles Hugh Smith of Of Two Minds.

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  • Frank

    No surprise there.
    In an effort to stave off complete collapse, they’ll print money day and night to re-liquefy the system, and as a result create hyper-inflation not seen since the fall of Nazi Germany.

    • It will be more like Zimbabwe than Germany, with their trillion dollar notes available for a penny or two.
      I have read that, during the bottom of the Great Depression, someone bought a block in Manhattan for an ounce of gold. Maybe I’ll buy downtown…

  • It’s more like the bigger they are, the harder they fall, and they will fall on a nation of sheeple who are totally ignorant of the danger they are in.

    • Nexusfast123

      I agree. They might not want it to fail but like a rubber band it will stretch until it finally snaps. Probably with a calamitous collapse.

      • There is a group among them who is hoping for a calamitous collapse to justify the invocation of formal martial law and full-blown totalitarian authority. Thomas Jefferson wrote about this at the close of the American revolution: “The spirit of the times may alter, will alter. Our rulers will become corrupt, our people careless. A single zealot may become persecutor, and better men be his victims. It can never be too often repeated that the time for fixing every essential right, on a legal basis, is while our rulers are honest, ourselves united. From the conclusion of this war we shall be going down hill. It will not then be necessary to resort every moment to the people for support. They will be forgotten, therefore, and their rights disregarded. They will forget themselves in the sole faculty of making money, and will never think of uniting to effect a due respect for their rights. The shackles, therefore, which shall not be knocked off at the conclusion of this war, will be heavier and heavier, till our rights shall revive or expire in a convulsion.”

        • Nexusfast123

          I think that view has merit in terms of creating an excuse to seize power.

          • Their motives are the same, regardless of whether they just wait for others to bring about the downfall or they do something themselves to bring it on. They don’t want it not to fail.

  • Nexusfast123

    Welcome to the antithesis of capitalism where nothing is allowed to fail. We are storing up massive cumulative catastrophe by not allowing institutions to fail and renew.

  • SovereignPatriot88

    This is why the rest of the world is dumping our bonds and dollars. When the rest of the world dumps the dollar, all their printing will be meaningless. China, Russia and every other country using dollars realises that America is completely incapable of managing our economy responsibly without lying, cheating and stealing. They manipulate prices to give the appearance of solvency and stability. They have been keeping the price of PMs artificially low so people will think everything is going well. How can they run out of silver due to massive demand and the price stays the same or goes down? How can China buy tons of gold and the price changes so little, if at all? The economy is so screwed up that nothing makes sense anymore. How much longer can this charade go on?