A dip in the stock market is not something to fear

There is nothing like a big stock market correction to focus everyone's attention on the macroeconomy, especially when it corresponds with an election season. Ever since the stock market started its recent decline about a month ago, I have observed — and participated in — a sharp rise in the number of discussions, questions, opinions and news stories about the dubious economic strategies currently being pursued by U.S. policymakers, especially as they pertain to rising interest rates.

Recent tweets and comments from President Donald Trump are unambiguous about his level of dissatisfaction with the current Fed policy of gradually increasing the Fed Funds Rate. Now maybe I am just over sensitive, but the frequency and intensity of these comments from the president and other like-minded market analysts seem to correspond to the decline in stock prices this past few weeks.

So as we all prepare to head to the polls next week — and also as we intensify our planning and forecasting efforts for the coming year — I feel compelled to offer my opinion about the recent volatility in the stock market, the underlying causes — both real and perceived — of the recent market correction, and how all of these trends affect my outlook for the plastics industry in the coming year.

First, let's take a step back and garner some longer-term perspective. The current bull market is more than 10 years old. And just since the beginning of 2016, the stock market is up a stellar 34 percent. It escalated 10 percent in 2016, it jumped 19 percent in 2017, and even with the latest drop it is still up 2 percent for the year in 2018. Clearly, the upward momentum is slowing, but the trend needed to decelerate. Everybody knows that markets fluctuate in a cyclical manner, and all will agree that after a long upward trend a correction is therapeutic. But when a correction is actually occurring, too many people get overly anxious.

The stock market is an excellent indicator of future economic activity, but it is only an indicator and it must be interpreted appropriately. The hackneyed adage "The stock market is not the economy" still applies. It is true that economic recessions are always preceded by a bear market, so we can never ignore what this very sensitive indicator is telling us.

But most times, it is too sensitive. Growth in the economy did not skyrocket after last year's sharp rise in the market, and we are not going into a recession in 2019 just because the market turned down. Another tired, but still relevant adage "The stock market has predicted 10 of the past five recessions" is also apt at this moment.

Rising interest rates are the easy excuse currently being offered for the decline in the markets, but this is a case of fallacious logic. Stock valuations had risen to their highest levels since the year 2000,​ the year of the Y2K dot com bubble, so a correction at this time is not at all surprising. We all knew one was coming, but nobody could reliably predict when and how much. The current downturn may last a while longer, and it may go a bit deeper, but I expect we are closer to the end and the bottom than the beginning.

And I also expect that the Fed will stay the course when it comes to gradual increases in interest rates in 2019. Manufacturers from all sectors, including the plastics industry, have an innate disdain for rising interest rates. Two of the most crucial end markets for plastics products are motor vehicles and housing, and demand levels in both of these markets are very sensitive to interest rates. But inflation-adjusted interest rates are still quite low by historical standards. In fact, they are very close to zero.

A real interest rate near 0 percent may be appropriate for a struggling economy, but it most certainly is not good for a healthy economy. An interest rate that is too low is actually an impediment to sustained, healthy economic growth. It punishes savers, and it encourages profligate risk-taking. So, the Fed is acting prudently in its efforts to restore interest rates to a neutral level. We may still need to engage in some reasoned debate about what the "neutral" level is, but there is little doubt that it is somewhere above a real rate of 0 percent.

Given that I believe the Fed is acting prudently, my outlook for the U.S. economy and the plastics industry in 2019 calls for continued strength. Growth in real GDP next year will be better than 2.5 percent after a gain of a little more than 3 percent this year. This will be a nice, sustainable, above-trend pace. President Trump likes to tout a rate of over 3 percent, but that is still above the long-term potential of the current economy.

We could get back to where a pace of 3 percent is sustainable over the long haul, but we will first need to increase our rate of productivity growth to a sustained level of greater than 2 percent. This will require continued capital investment. Capital spending will rise by a solid 8 percent this year, and we will need to keep it at that level for a few more years to get productivity gains up above the 2 percent per year threshold.

My outlook continues to call for low levels of both unemployment and inflation in 2019. This is the best of both worlds, and it means that real household incomes and spending can expand while the Fed continues to raise interest rates gradually. We are likely to experience continued contraction in demand for both housing and autos, but these declines will be moderate due to the increases in household spending power. In other words, tax cuts and wage gains will mitigate the rising interest rates in these sectors, so demand will not collapse.

The net result of these trends is that profit levels for most segments of the manufacturing sector, including the plastics industry, continue to improve — a major exception will be the auto sector. The rate of expansion for overall profits in the plastics industry will decelerate when compared with recent years, but total earnings, especially for the nonauto suppliers, should continue to grow in 2019.