Stock markets are booming — not only in USA and Australia where economic growth is positive, but even in economies still locked in the doldrums like the UK and Japan.
Alan Greenspan observed last month that this augured well for the economy, since
“the stock market is the really key player in the game of economic growth… The data shows that stock prices are not only a leading indicator of economic activity, they are a major cause of it. The statistics indicate that 6 percent of the change in GDP results from changes in market value of stocks and homes.”
This is the so-called “wealth effect”: an empirical relationship between change in the value of assets and the level of consumer spending which implies that an increase in wealth will cause an increase in consumption.
Greenspan’s sage status is somewhat tarnished post-2007, so I don’t think anyone should be surprised that his definitive statement involves something of a sleight of mouth. The “6 cents extra spending for every dollar increase in wealth” found in the research he alluded to was for the relationship between changes in the value of housing wealth and consumption, not stocks. In fact the authors, Christopher Carroll and Xia Zhou, argued that the wealth effect from stocks was “statistically insignificant and economically small”:
