Saturday, September 27, 2008

Effect Of Falling Share Prices Onto Economy

Student’s question: Can you tell me about the recent downward rally of share prices?

Ok, I’ll just make it general since you do not specify which country you are referring to like US, UK or Malaysia. Furthermore the size of the effect in each country is rather different, for instance in UK investment in property market is more significant than owning shares

Effect of falling share prices onto economy:

(1) Fall in wealth. Those who own shares will be severely affected now as falling share prices translate to fall in wealth. Therefore they will spend less & economic growth is affected

(2) Fall in economic confidence. Just like prices of house, bear rally of stock prices will reduce consumer confidence. If it’s severe & prolonged, any concerted effort by government & central bank to stimulate spending will likely be futile

(3) Difficult time for firms. Firms may need to raise capital to finance their business through the issuance of shares. In such period, most investors will likely shy away from the financial market, & thus there is possibility of shares issued unsubscribed. Therefore firms’ investment will fall

(4) Pension funds. If the fall in share prices is prolonged, value of pension funds may be wiped off & nothing much the fund managers can do counter this

No comments: