How Much Damage Could Warren Do to the Stock Market?

Elizabeth Warren

Should Elizabeth Warren become elected president, and should her proposed tax hikes get put into place, the estimates of a 20-30% loss in the stock market may be on the low side.

It isn’t all that easy to predict what effect having Elizabeth Warren as president might do to the stock market, but by just about all accounts, including all that are sensible, this would be a disaster.

If the goal is to reduce wealth, Warren’s platform would accomplish this extremely well, as even the low end of these estimates, 20%, would see the stock market alone lose $6 trillion. It is unlikely though that we would get by with just a small loss from the stock market even though this number is plenty bad enough.

When the market loses this much, this means not only the billionaires lose, we all lose, all of us who are invested in stocks that is. This is a lot of people indeed. The worst of this isn’t even the loss now, it’s also the loss of future returns that people count on to fund their retirements and other activities while the stock market gets beat down year after year.

We need to start by looking at what it takes to produce a decline of this magnitude. A little over a year ago, we had one of these events, and all it took was the market worrying that the Fed might hike interest rates some more. Once that worry went away, we resumed our course, but this did cause things to drop by this 20% while the fears festered.

The fact that this relatively minor issue caused such a big drop in the value of stocks shows just how big the multiplier effect is, and this is the part that the predictors don’t account for near enough with their 20-30% predictions. The effect on business of another half a point rate hike would not be all that significant and nowhere near the $6 trillion loss of wealth that this caused, but the stock market takes everything and multiplies it, both good and bad.

When we’re taking about things that, collectively, would amount to an effect many times what this little concern about rates produced, and with the baseline here being $6 trillion, multiplying that becomes a very scary prospect indeed.

While we’ve been focusing so much on her proposed wealth tax on those whose wealth exceeds $50 million, this isn’t the only threat, and we actually need to worry more about the other tax hikes she’s looking to enact because they are more likely to happen. We’ll consider all of them here though, including her wealth tax, to try to get a handle on what sort of risk we’re looking at here.

Make no mistake though, her wealth tax would truly be a bomb for the stock market, an ongoing bombardment actually, during a war that would rage on and get worse and worse over time as long as the wealth tax persisted. There really isn’t a scenario that is out there that doesn’t see the U.S. stock market laid in ruin with no chance to ever get back to its glory days while this tax remains in effect, leaving the market nowhere else to go but further down as assets continue to get pulled out of the market year after year.

With the persistent negative returns that this would cause, only the truly foolish would be left in the game, with everyone else running for their lives. We’ve had crashes this bad before but still managed to keep a lot of hope going and this allowed us to recover from these things.

There is a floor to stock prices, what the companies are actually worth, but it’s only about 30% of where we’re valued at right now. The rest of the value of stocks consists of hope, and with hope gone, we’ll be down to the bare floor. A wealth tax will put an end to this hope like nothing we’ve ever seen before.

The Other Taxes Are Plenty Dangerous Enough

However, let’s take a step back and look at her other ideas about how to destroy the stock market and the economy, starting with rolling back the 2017 Tax and Jobs Act, which is widely criticized by Democrats for allegedly giving away money to corporations. The only way that this has a chance to survive intact is if Trump wins. Trump is indeed the founder of our present feast and this tax cut is what has kept the economy from slipping into a recession and our current bear market from ending.

Repealing this act will in itself put an end to this party, and see us give back a lot of the gains that we’ve achieved since. This also in itself has the potential to create a bigger bear market than we saw last year, especially with it taking the economy from barely hanging on to what would likely be a recession. This one alone could be counted on to deliver the 25-30% that is on the high end of the predictions out there.

The more moderate Democrats want to get rid of this, but Warren doesn’t want to stop there, and wants to slap another 7% on top of this on large companies, the ones that people own stocks in.

Democrats in particular think that corporate taxes are a great way to raise tax revenue, and are naive enough to think that it’s just the companies that pay this and these don’t get passed on to everyone. Among those subject to the full brunt of this tax are the worst off that they hope to help, and this serves to both increase inflation and contract the economy. Corporate taxation is a terrible idea in fact and needs to be reduced further, and ideally eliminated altogether, not increased.

With this addition, you can plan on a bear market lasting the duration of her presidency at least, although in 2024, just the effects of her corporate tax policy alone will be enough to have her tarred and feathered and run out of town.

This isn’t the end of Warren’s messing around. She is particularly upset with private equity firms and plans on showing little mercy in attacking them. This one won’t affect the stock market very much directly but it will cut real investment by a lot, and harm the economy, and this will get multiplied by the stock market and in itself result in significant further losses.

Her seeking to break up large companies will also push stocks down further, and once again, the perception becomes the reality. We’ve already seen just how sensitive the stock market is this idea, and if it comes to pass, we’ll really see this have a negative effect overall.

When people sell stocks, and especially when they sell very large cap stocks, this has a residual effect and tends to take other stocks down with it. There’s so much being held in indices, and these stocks play a big role in them. If you sell positions in the S&P, you might only be worried about a handful of companies but all 500 stocks in the index take a hit from this.

Given how eager Warren is to tax the wealthy, you can also count on personal income tax rising. She’s already planning on raising social security contributions for the top 2% of earners, and along the way, we can pretty much count on personal income taxes being hiked for the wealthy as well, in addition to her wealth tax or perhaps instead of it if she can’t get it passed.

Any time we raise taxes even a little, this contracts the economy, which is the opposite of what we are trying to do now by firing it up rate cuts by the Fed. Just your normal everyday tax increases, including her plans on taxing the financial sector directly, will undo this by many times.

As bad as all this would be, it pales in comparison to what a wealth tax would do. The other hikes could be compared to using conventional weapons, where a wealth tax would represent the nuclear option, and Warren just doubled its payload by doubling it from 3% to 6% now.

What is most striking here is Warren’s view that this will just hurt a few billionaires who do not deserve to cry or even complain. She is telling us that she really is that naïve, and if we are thinking that blowing up the stock market will only hurt a few people, nothing could be further from the truth.

It is actually pretty hard to exaggerate the effect of such a wealth tax on the stock market. We don’t really have anything that would serve as a comparison, and the 2008 crash doesn’t even qualify, as while we lost 60% of our market capitalization from this, the situation was only temporary and there was a fix for it. It got fixed, but a wealth tax will be way beyond any sort of remedy other than getting rid of it.

This Wealth Tax Would Simply Crush the Stock Market

The closest we may have to what this would look like is the crash of 1929 and the ensuing bank failures, but that got fixed eventually. This is not a matter of comparing the economic effects of the Great Depression, as this probably won’t be anywhere near this bad on the economic front, but in terms of the effect on the stock market, this would at least be right up there if not worse eventually. With each passing year seeing more and more damage, damage that we cannot stop without repealing the tax, this could end up taking us to a place of singular ugliness and pain.

Even if we just lost half of our market capitalization from all this, from the wealth tax and all the other taxes, that’s a pretty severe impact that will dash people’s retirement plans and cause a tremendous amount of pain for anyone invested in the market. What truly makes this wealth tax stand out is that more and more money will be sucked out of the market each year and there really wouldn’t be anything that we could do to stop this slide down every year. That’s the scariest part.

Those who aren’t that familiar with how the stock market works, which certainly includes Warren, may wonder how such a tax on such a tiny percentage of people could lay waste to the stock market in this way.

The natural state of the stock market has more and more people putting more and more money into stocks, which increases the marginal value of them. Individual investors trade at the margin, at or close to the asking price of stocks, but if we assessed the actual value of stocks, if all shares were put up for sale, this would come in much lower, being worth perhaps half or even less of market capitalization, because it is only the shares at the margin that are at that price, with the rest only being able to fetch a much lower average price.

Each time a trade is made and the price of a stock changes, this is mistakenly thought to affect the value of all the shares out there in the same way. If a stock has a market cap of one trillion dollars, and it goes up 10%, each and every one of these shares is thought to be worth 10% more, although it’s only the shares on the margin that have gone up.

If we end up selling off quite a bit, the actual lower value of these other shares manifest as we work our way downward, and this is how we can end up with big crashes from events that should have a much smaller magnitude. Sure, the financial crisis of a decade ago was a big deal, but it wasn’t even close to having stocks worth only a third of what they were worth prior to this, and this even includes companies who were still doing well during this time.

The outflow of capital from the stock market that a wealth tax would cause would be bad enough even if we don’t account for the multiplier effect, but what would happen is that this outflow would cause a lot more outflow as people flee from the crisis. This is why we went down so much in 2008, but unlike that crisis, this new one would not be a fleeting and manageable event but one that could not be prevented from getting worse and worse each year.

It isn’t even that easy to predict the extent of the damage from this to stocks other than to describe it as massive and persistent. Instead of the top end being 30% as thought, we could be looking at 75% or more eventually, and it’s not hard to imagine how this would scuttle the retirement plans of Americans who rely on good returns to achieve their goals or at least try to.

A lot of the present value of stocks today are a result of not business results but by pure optimism, and this optimism accounts for the majority of the value of stocks. Stock prices are fully three times higher than the value of the underlying companies on average, so optimism can be said to account for two out of three dollars of market capitalization.

People are happy to pay more and more for stocks because of this optimism, increasing the value of all the shares out there as a result. When this reverses, we see the pessimism being multiplied in a similar manner on the way down.

We are not talking about a little loss of optimism such as the worries about the trade war with China, as the massive selloff required to pay this tax will not only set things moving downward, it will do so in a pretty dramatic fashion. Most of the damage will be done by the market though as it takes over and panics and we see a much larger exodus, with no real hope of reversing this.

This all may not be something we want to call a stock market Armageddon, but this would be more than sufficient to cause a huge bear market that will only get worse and worse. Warren is right in that the billionaires will be just fine even losing huge chunks of their wealth, because there will be plenty left over to live very comfortable on, but won’t be able to say the same thing about everyday investors though, and this tax will end up hurting them a lot more. We can only pray that Warren will not learn this long after so much damage has been done that her grass-root people become crushed under the weight of this.

The only hope here is the fact that Republicans will fight this to the death, and passing this wealth tax just isn’t realistic in the face of this, right now anyway. The fact that we’re even talking about blowing up the stock market this way should scare us plenty.

This is not to say that a Warren presidency won’t do quite a bit of damage to the market and the 25-30% that we are hearing might be realistic when we take the wealth tax off the table, even though it could be worse than this depending on whatever else she may help push through to compensate for the loss of her dream and our nightmare.

If Warren gets elected, the best-case scenario will still be very ugly and painful, but hopefully when the dust settles and we pick ourselves up from the ground and look to heal, we’ll at least learn just how damaging this war on the wealthy can get, when we turn the weapons on the public as well, as all of this would do.

John Miller


John’s sensible advice on all matters related to personal finance will have you examining your own life and tweaking it to achieve your financial goals better.

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