Richard Drew/AP Photo
A television screen on the floor of the New York Stock Exchange on Monday, August 5, 2024, headlines trading as stocks fall.
Stock markets around the world plunged into chaos on Monday. It wasn’t a full-blown financial panic, but the “volatility index” (a measurement of instability in the S&P 500) still spiked dramatically to the highest level since the depths of the COVID-19 pandemic. In Japan, the Nikkei stock index plummeted more than 12 percent, the worst sell-off since 1987. American markets crashed at the open, though regained some of the losses in afternoon trading.
It is long since time that Federal Reserve Chair Jerome Powell should have started cutting interest rates. A cut in September is now widely predicted. Let’s hope it’s not too late.
First, some background. There appear to be three main factors behind Monday’s instability. The first is a growing conviction among financiers that the Federal Reserve has indeed waited too long to cut interest rates. The July jobs report was the weakest since before the pandemic, with just 114,000 new jobs created, and the unemployment rate nudging up to 4.3 percent. As I have argued previously, interest rate movements take a long time to have any effect, while rising unemployment can quickly snowball out of control into a recession. The Fed may now be too late to head off a recession. Some of the bad July numbers may have been due to hurricane weather effects, but that still plays into herd mentality on Wall Street, and in any case there’s a decent chance the next several months will also feature hurricanes.
The second factor is that the AI hype train appears to be slowing. This mania was most evident over the last year by the dozens of random companies—perhaps dazzled by the overheated promises coming out of Silicon Valley, or just not wanting to miss the next big thing—releasing AI tools of dubious functionality that no one asked for. The results have been mixed at best.
Generative artificial intelligence models like Chat GPT or Midjourney are genuinely staggering mathematical artifacts, but never have demonstrated anything like the broad business use cases claimed by boosters like OpenAI CEO Sam Altman. It is truly amazing, for instance, that a tech product can write a passable five-paragraph essay on cue, but the world is already drowning in low-quality writing. Worse, these models are hugely more resource-intensive than traditional tech businesses. Unlike software, where the marginal cost of production is virtually nothing, training and running one of these AI models requires a lot of extremely expensive and electricity-gobbling AI chips.
Nvidia, which makes most of these chips, was briefly the most valuable company in the world some weeks ago. It’s down now in part because of a failure to meet stated production goals, but also because of rising skepticism from places like Goldman Sachs about claims that all the pricey chips Nvidia is selling to other businesses are going to produce the anticipated profits.
Meanwhile, the only story for the Tesla investor cult that is propping up its own preposterous overvaluation is that AI-powered robotaxis are coming any day now. Not only does that appear vanishingly unlikely to happen, but the company’s actual business—selling cars—is in serious trouble.
Moreover, AI tech also poses a real threat to some actually existing tech companies, above all Google. Most obviously, the internet is already swamped with AI-generated SEO sludge that clutters up its search results, and it’s getting worse by the day. Moreover, Google’s own AI model, Bard, became the butt of viral jokes overnight when users found it recommending they put glue on their pizza or eat rocks, but that illustrated a very real problem. Those AI results came from Bard repeating joke articles or posts that it ingested without asking (potential copyright infringement is another big legal land mine here). If Google becomes an AI summary machine, thus cutting off traffic to online publishers, then it blows up the social contract that underpins the whole idea of search engines, and hence Google’s basic business model.
The third factor creating Monday’s sell-off is the Bank of Japan raising its target interest rate—only to 0.25 percent, but still the highest level since the 2008 crisis. The goal is reportedly to strengthen the Japanese yen against other currencies, so as to boost domestic spending power and reduce the price of imports. But this also makes Japan’s large export sector less competitive, prompting a sell-off that was exacerbated by the fact that so much investment in Japanese firms has been coming from flighty overseas investors of late.
At any rate, voices on Wall Street are begging for help. On CNBC’s Squawk Box, Wharton emeritus professor Jeremy Siegel argued that the Fed should issue an emergency rate cut of 0.75 percent, and cut again by the same amount in December, to prevent a market collapse.
It all makes for quite the contrast with 2022 and 2023, when analysts were demanding brutal increases in unemployment, and wage growth was viewed as a problem almost by definition (though not by Siegel, to be fair). Economists Larry Summers and Jason Furman predicted that taming inflation would require driving unemployment to 10 percent or 15 percent, respectively. During the Fed’s policy committee meeting in July 2023, participants worried that unemployment might get too low, and that “nominal wages were still rising at rates above levels assessed to be consistent with” stable prices.
Despite its supposed dual mandate to both stabilize prices and maximize employment, for decades now the Fed has clearly prioritized the former goal. Former Fed chair Janet Yellen, for instance, started raising rates in 2015 after the central bank undershot the inflation target for the previous three consecutive years. But when financial companies are threatened, priorities shift. When high interest rates destabilized Silicon Valley Bank in 2023, for instance, the Fed leaped into action to save it, trampling on precedent and arguably the law to do so.
So if the value of rich people’s portfolios is what it takes for the Fed to stop running the labor market into the ground, that’s fine. Just hop to it.
