A sharp correction in equity markets would weigh on global activity, but by itself is unlikely to push the world into recession, according to fresh research from Capital Economics.
In a note published Wednesday, Chief Global Economist Jennifer McKeown said that while falling share prices can magnify economic weakness, history suggests that “the causality almost always runs from the economy to markets rather than the reverse.”
McKeown pointed out that U.S. stock market drops of 20% or more “often coincide with recessions but rarely or never cause them.” She noted that the most severe episodes, including 1929 and 2008, unfolded as equities tumbled “alongside an independently weakening economy.” In those cases, deteriorating credit conditions, stressed balance sheets and plunging confidence deepened the downturn.
By contrast, she cited corrections in 1946, 1962 and 1987, which had “limited economic impact because the backdrop was stable, balance sheets were healthy and/or policymakers responded quickly.” The broader takeaway, according to the firm, is that equity sell-offs become truly hazardous when they intersect with structural vulnerabilities such as excessive leverage or financial fragility.
At present, potential triggers include fiscal policy errors or geopolitical shocks that could simultaneously hit growth and investor sentiment.
However, McKeown dismissed the idea that a market slump driven by artificial intelligence hype would automatically tip the economy into recession. For that to happen, there would need to be “a collapse in confidence about AI’s potential,” a scenario the firm considers unlikely given anticipated productivity benefits.
Capital Economics currently forecasts a 12.5% decline in the S&P 500 next year, which it believes would carry “very limited economic consequences.” Even a more pronounced 20% to 30% correction “need not cause a recession in isolation,” supported by ongoing expansion, moderating inflation, healthier banking systems and more resilient emerging markets.