In Search of a Dismal Economist
November 1997

A version of this article appeared as "Investors Grit their Teeth, Hope for the Best," Business Forum, Green Bay Press-Gazette, November 17, 1997.

When the stock market fell thunderously on Monday a couple of weeks ago, I realized with a pang that here at last was an occasion for economists to rejoice in. Economics, you see, has long been disparagingly called the dismal science, and a drop of 554 p oints in the Dow Jones Industrial Average would surely cause dismal-ness to spread like wildfire among the economics profession and thence to the general public. I sat back and waited for the inevitable pall of gloom to descend upon the country.

I did my best to inject gloom into the picture. A local radio station called me up for an interview on the stock market crash. I agreed morosely. Upon being asked what the small investor should do, I said, "There isn't much they can do. Jump into the Fox River, perhaps?" The interview didn't last long.

The key question here was: How would the small investor react? I knew that the whole thing would snowball if the small investor lost his nerve. I waited patiently for news of brokers being flooded with sell orders by nervous shareholders.

Instead, I read reports of small investors hanging on grimly to their stocks, and in some misguided instances, even adding to them! Surely, I thought, they would receive their comeuppance when trading resumed the next day.

On Tuesday the markets opened - and immediately fell. Jolly good, I thought to myself, here it comes. But this feeling of dismal elation didn't last long. For soon afterward, the markets turned around and posted a stunning advance. Institutional investor s and mutual fund companies snapped up stocks like hot cakes. The small investor, plainly not knowing any better, bought as well. Irrational exuberance ruled the roost. When trading halted on Tuesday, the DJIA had regained a large portion of its earlier l oss. And over the next few days, the market had managed to recover almost fully from Monday's dramatic plunge.

What went wrong, I wondered gloomily? Where was the pessimism?

Turns out that the modern investor is a fairly intrepid chap. Having watched the stock market's relentless ascent following the crash in October 1987, he views a market decline - even a steep one - as an opportunity to buy more stocks with the intention of holding them for the long term. He is also more disciplined now: his participation in automatic investment plans, including the ubiquitous 401k's, ensures that he will continue to buy stocks in troubled markets.

Today's investors are also better educated in financial lore. They watch the financial news on CNBC, imbibe investment wisdom from Money and similar magazines, and read the Press-Gazette's Business Forum diligently. Accordingly, they have come to expect that a portfolio consisting liberally of stocks, though more volatile in the short run, is likely to generate greater returns over an extended duration. Thus when markets go down, they grit their teeth, continue to invest through their automatic investment plans, and hope to emerge from the turmoil unscathed.

Investors also pay attention to domestic economic conditions. Following Monday's rout, investors big and small comforted themselves with the thought that the economy was in fine fettle. Inflation, unemployment, interest rates - all were low. Even the acc ursed budget deficit had been all but eliminated. Certainly, the Southeast Asian economies were embroiled in a financial crisis, but that was unlikely to have a pronounced effect on the US economy.

All this is enough to make a dismal scientist shake his head dolefully. If even a 550-point drop in the Dow is not enough to spread gloom, what is?

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