IT'S AN ANNIVERSARY for the stock market: on the 13th of August last year--it was a Friday --the market, having sunk dismally low, suddenly leaped upward. In the phenomenal rise that followed, the Dow Jones Industrial Average climbed 60 percent. It's always perilous to try to explain precisely why stock prices move as they do. But at least in broad outline the reasons for the great bull market of the past year are pretty clear.
The turnaround last August was a response to the drop in interest rates that had begun six weeks earlier, and the rates were falling as a result of two political developments. The Federal Reserve Board had decided to relax monetary policy, and Congress, with the belated but vigorous support of President Reagan, was in the final stages of enacting a tax increase.
Of the two, the tax increase was more important. Without it, relaxation by the Federal Reserve might well have set off a wave of fears of more election- year inflation and sent rates up rather than down. The tax increase had little immediate effect on the deficit, but great importance for the years ahead. Previously the forecasts of federal deficits had indicated a continuous widening from year to year through the 1980s. With the passage of the 1982 tax bill, the deficits were stabilized at more or less the present level. Investors found that reassuring.
Half a year later the recession finally ended, and in May the rates started to rise again. Perhaps that's one reason why the stock prices peaked and began to fall in late June. It's important not to overdo the point. The relationship between the rates and stock prices is not rigid and immutable. But generally speaking, it remains true that high and rising interest rates are not good for the market.
The past year's history also suggests some of the limits on the Federal Reserve's ability to influence interest. The Federal Reserve always works in an atmosphere sensitive to many other influences. Last year it was a tax increase that made everything else move in the right direction. It will probably take another tax increase to get everything moving that way again.
By the way, in celebrating this anniversary it's useful to keep a longer perspective in mind. The country has now been through 15 years of high inflation and high interest rates. If the Dow Jones average of 1968 had only kept ahead of inflation, today it would be just about twice as high as it actually is. Even after the big ride of the past year, the stocks on which Dow Jones calculates the average are worth just about half what they were, in real terms, in 1968. Perhaps that's not the most important measure of the damage that the misadventures of the past 15 years have inflicted on the American economy, but neither is it trivial.