New data reveals consumer confidence has plunged to its lowest level in two years. Historic data suggests the US stock market ignores government shutdowns. However, none have continued for so long, and falling consumer sentiment is a key indicator of an economic downturn.

Ongoing Government Shutdown Will Affect the US Stock Market

Consumer sentiment is used by manufacturers, retailers, and service providers to plan their strategies. Falling consumer confidence can quickly lead to production cuts and stalled investments.

The drop, reported by the University of Michigan, has been pinned firmly on the government shutdown. Its consumer sentiment index fell from 98.3 to 90.7 this month, the lowest reading since October 2016.

Chris Rupkey, chief economist at MUFG Union Bank, says:

This report on consumer sentiment is the first concrete evidence that the economy is going to fall and fall hard if Washington does not end the shutdown.

Consumer spending constitutes two-thirds of US GDP. Rupkey says:

It is going to be hard to see real GDP growth of more than 1 to 1-1/2 percent in the first quarter if the consumer goes on a buying strike.

Economists previously polled by Reuters had forecast consumer sentiment of 97.0. The 90.7 figure from the University of Michigan is a big departure from that number. Richard Curtin, chief economist for the Surveys of Consumers, puts the decline down to:

A host of issues including the partial government shutdown, the impact of tariffs, instabilities in financial markets, the global slowdown, and the lack of clarity about monetary policies.

Curtin also said the events would have a “negative impact on Trump’s ability to focus on economic growth,” adding that the year-ahead outlook was the worst since mid-2014.

The White House has already estimated the shutdown could reduce US growth by 0.1% for every week it continues. Reuters says economists put this figure at 0.2%. JP Morgan CEO Jamie Dimon believes the government shutdown could reduce US economic growth to zero.

Yet historical data says the US stock market has previously ignored government shutdowns.

Not Yet a Sustained Downturn

Curtin says:

While the January falloff in optimism is certainly consistent with a slowdown in the pace of growth, it does not yet indicate the start of a sustained downturn in economic activity.

For companies and organizations using customer sentiment as a benchmark against which to plan their activities, they should be looking for trends rather than sudden changes. A fall in consumer sentiment in February would give further cause for concern. However, the immediate figures may weigh heavily amidst other concerns.

Market Reaction Offset by Manufacturing Output Increase and Trade Optimism

Emerging at almost exactly the same time as the consumer sentiment figures, the US Federal Reserve’s manufacturing output report provided balance. Factory production in the US increased by an annualized rate of 2.3% in the fourth quarter of 2018. Output in 2018 achieved an overall 2.4% gain, the largest since 2012.

Daniel Silver, an economist at JPMorgan Chase, said:

While the manufacturing strength in December is a favorable signal for the economy, we should keep in mind that it came after soft results in earlier months.

He warns other manufacturing surveys have been weakening and the December hike may be “short-lived.”

This would also be true if manufacturers take to heart today’s consumer sentiment figures and revise their production output accordingly.

Should the government shutdown impact GDP and further lower consumer confidence, the latter of which could further lower GDP, the US stock market and the economy will suffer.

If the shutdown and trade issues with China could be quickly resolved, however, investors and businesses could be inspired to ignore other uncertainty.

“Stubborn Bull” and Blackstone strategist Joseph Zidle recently shrugged off the shutdown as a short-term factor, predicting the S&P 500 is heading for a 15% rally.

The rally seen over the last several days of trading, fed by optimism for tariff and trade resolutions, could persevere. A recent survey of US CEOs appears to show confidence even in light of a threat of recession.

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