Why Did the Stock Market Rise When the Government Shutdown?

Yesterday, the USA government shutdown all non-essential services.  This was front page news around the world.  The USA stock market, however, had a pretty good day with the Dow rising 0.4%, the S&P rising 0.8% and the NASDAQ rising 1.2%.  Why did the stock market rise when there was bad news from Washington?

Explaining why the stock market rises and falls is almost impossible and there is a good chance what I say below (and what anyone else says) is wrong.  With that caveat in mind I think the market rose for two reasons.

Chapter 3 of my macroeconomics book has a detailed explanation of what drives stock prices.  The main idea in the chapter is that stock prices are the total of all future profits after adjusting for when the profits occur.  The USA Federal government spends a lot of money each day and much of that money either directly or indirectly goes to publicly traded companies.  I teach MBA students and in one of my lectures on predicting I say, “if you are very uncertain about what will happen in the future, use your lowest/worst case estimate.  When you are more certain use the most likely/average estimate.”

The price of stocks fell the week before the shutdown as traders were uncertain if the shutdown would occur and many traders used worse case scenarios for predicting future profits and sales.  Once the shutdown happened traders were able to better predict future spending (or not spending) by the government).  This enabled them to change their profit predictions from the lowest to something a bit more certain and higher.  These higher predictions of future profits resulted in the market rising.

A second and probably smaller reason is that Obama Care is good for large companies.  Obama Care raises the cost of hiring workers since businesses now must pay for an extra health insurance benefit.   Almost all large companies are already providing health care to their workers so Obama Care has no impact on them.  However, Obama Care makes it more expensive to start a new business.  The higher the cost the fewer new businesses are started.  This reduces competition, enabling large publicly traded companies to make higher profits.  Higher profits means a higher stock price.

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