Nothing to Fear but Fear Itself?

There are a lot of talks about market psychology in recent days as the market went through a deep correction. For instance, the Wall Street Journal has a piece today that tries to argue that "[t]he biggest threat to recovery is the markets themselves." That is, the economic recovery would be back on track if the markets just believe it.

As if to confirm it, the market had a good rally today without any good news.

I do believe there is certain amount of truth in it, although I think there is far more than just investor psychology that's involved.

To a large degree, our modern economy is now very asset-based, in that consumers can spend based on the value of their assets such as homes and mutual funds. So if the markets for these assets are supported either by the Fed, or by optimistic views, we may see very positive effects on consumption and hence on recovery. That in turn may lead to higher asset values.

But that was how we got into the credit crisis, believing for example that home values would always go up. Consumers are now working hard to repair their balance sheets. In such an environment, we need actual income generation to support the economic recovery. That is, jobs.

This is probably why PIMCO's El-Erian thinks that unemployment has shifted from a lagging indicator to a leading one and is warning government policymakers to confront the structural problems in the economy. Eight millions of jobs have been lost since the beginning of the great recession. Despite historically low interest rate and trillions of dollars in stimulus spending, jobs are still scarce and are being added too slowly.

Investors have to ask, why these profitable corporations are not adding more jobs and who are going to lead job creation?