In 1987, the US economy was shocked by an unexpected stock market crash. Coined the term Black Monday, the Dow Jones Industrial Average dropped by 508 points, at that time was 22.6% drop. To put that into perspective, the number of points it would drop by modern-day standards would equate to 5000 points in one day. This single day was more dramatic and devastating than the stock market crash of 1929, the selloff after September 11th, and the 2008 financial crisis.
Possible motives for this crash would include heightened hostilities in the Persian Gulf, fear of higher interest rates, a five-year bull market without a significant correction, and computerized trading that accelerated the selling and fed the frenzy among the human traders. In addition, there were two significant drops the previous week. The crash affected not only investors and traders within the US, but it also expanded outwards, internationally. traders used the information from changes in stock prices and communication with other investors in a self-reinforcing contagion of fear. This pattern of basing trading decisions largely on psychological factors is often referred to as one form of "noise trading", which occurs when ill-informed investors "on noise as if it were news". Before that, however, the economy was climbing out of recession, inflation was decreasing and the stock market peaked at 2722 points, 44% higher than the previous year's closing number, 1895 points.
To combat this crisis, the federal government stepped in and utilized tools it had at its disposal to meet the market disruption: crisis management via public pronouncements, supplying liquidity through open market operations, persuading banks to lend to securities firms, and intervening directly in a few cases. Fed Chairman Alan Greenspan made a short announcement on the Federal reserve supporting and serving as a source of liquidity. The federal reserve induces the banks by suasion and by the supply of liquidity to make loans, on customary terms, despite chaotic conditions and the possibility of severe adverse selection of borrowers.
Despite having that crash, the economy "rose out of the ashes". The economy healed and managed to have the strongest and longest bull market in history. Many things were implemented to prevent another crash such as circuit breakers, which would pause trading if the market was declining at a rapid rate.
I really liked how thorough this post was, from putting the crash in a modern-day perspective to the causes and effects to the solutions the federal government put in place to combat it. It’s really interesting to compare Black Monday to our stock market today, which is doing pretty bad because of the coronavirus outbreak. A few days ago I read in the U.S. News article that our stocks have suffered their worst losses since Black Monday (Standard & Poor's dropped 12%, Dow 13%)! It’s really concerning because if we follow past trends, like the recession you mentioned resulting from Black Monday, the outbreak has greatly increased the likelihood of the global economy moving into recession. Based on the evolution of our economy and political climate today, how do you think the federal government will respond differently to this crisis compared to Black Monday?
ReplyDeleteSource:
https://www.usnews.com/news/economy/articles/2020-03-16/stocks-suffer-worst-losses-since-1987s-black-monday
I think it's really cool that you decided to blog about this, considering the recency of several similar stock market disasters. The Financial Crisis of 2007-08, for example, was a major stock market crash that led to the Great Recession, a recession often compared to the Great Depression due to its severity. However, the stock market did manage to recover relatively quickly after it crashed in 2008, which can be largely attributed to the prevention methods implemented after Black Monday in 1987 that you mentioned. What most people today are probably more concerned with, though, are the stock market crashes that have been occurring since last month, with March 9th being considered as another "Black Monday". Unfortunately, it doesn't seem like the prevention methods introduced in 1987 will help all that much this time.
ReplyDeletehttps://www.thestreet.com/politics/black-monday-1987-14738772
https://www.thebalance.com/fundamentals-of-the-2020-market-crash-4799950