Stock Market Needs Less Policy Ambiguity

The stock market is a complex ecosystem, influenced by a myriad of factors ranging from economic indicators to geopolitical events. One of the most significant yet often overlooked factors is policy ambiguity. Former Trump economic adviser Gary Cohn has emphasized the need for clarity in policymaking to stabilize the market and boost investor confidence. Let's delve into how policy ambiguity impacts the stock market and what can be done to mitigate its effects.



Policy ambiguity refers to the uncertainty surrounding the implementation and outcomes of government policies. This ambiguity can significantly impact investor sentiment and market volatility. When investors face ambiguity, they are less likely to make investment decisions, leading to reduced market participation and increased volatility. For instance, the 2025 consumer sentiment data shows that there was a 4% decline in consumer sentiment, which was attributed to the uncertainty surrounding President Trump's policies. Joanne Hsu, director of the University of Michigan’s Surveys of Consumers, noted that "Survey responses make clear that the recent partisan divergence in confidence in the economy is rooted in how consumers view Trump’s proposed policies." This uncertainty led to a decline in the Consumer Sentiment Index to 71.1 in January 2025, down from 74.0 in December. This decline was broad-based and seen across incomes, wealth, and age groups, indicating that policy ambiguity can have a widespread impact on investor sentiment.

Moreover, the study on the stock market reactions to national policy responses during the COVID-19 pandemic provides further evidence of how policy ambiguity can impact market volatility. The paper found that both the nationwide lockdown order and the interest rate cut policy had a significant and positive impact on the stock market performance. However, the stock market reaction to the announcement of an interest rate cut policy was larger than that of a lockdown order. This suggests that the type of policy and the clarity of its implementation can influence market volatility. The paper also noted that "There is huge uncertainty surrounding the policy responses to COVID, centering around whether and how they can effectively revitalize the economy." This uncertainty likely contributed to the increased market volatility during the pandemic.



Reducing ambiguity in policymakers' decision-making processes can have significant economic and market outcomes, potentially influencing long-term investment strategies in several ways. Firstly, reducing ambiguity can lead to increased investor confidence and participation in the stock market. According to the provided information, "investors who perceive less ambiguity about a particular financial asset are more likely to invest in it." This is supported by a study where "about 58% of the respondents were ambiguity averse, while 30% were ambiguity seeking." This implies that a majority of investors prefer known probabilities over unknown ones, and reducing ambiguity can encourage more investment. For instance, providing more information and context for investment products could encourage participation in equity markets, as it can reduce perceived ambiguity. This is because "the impact of ambiguity aversion on decisions is reduced when people are more aware of what the results of their actions could be."

Secondly, reducing ambiguity can lead to more stable and predictable market conditions. The provided information states that "ambiguity is relevant to financial markets, since the probabilities that underlie the distribution of asset returns are not explicitly known." By reducing this ambiguity, policymakers can create a more stable environment for investors. For example, the V-VSTOXX, which is the 30-day implied volatility of the VSTOXX, is used as a measure of ambiguity. A lower V-VSTOXX would indicate less ambiguity and potentially more stable market conditions.

Thirdly, reducing ambiguity can lead to more informed decision-making by investors. The provided information states that "people’s choices not only reveal ambiguity aversion, common for likely gains, but also ambiguity seeking for unlikely gains and for losses." By reducing ambiguity, policymakers can help investors make more informed decisions, leading to better long-term investment strategies. For instance, investors with greater ambiguity aversion are less likely to invest in cryptocurrency, indicating that reducing ambiguity can lead to more rational investment decisions.

In conclusion, reducing ambiguity in policymakers' decision-making processes can lead to increased investor confidence, more stable market conditions, and more informed decision-making by investors. This can potentially influence long-term investment strategies by encouraging more investment in the stock market, creating a more stable environment for investors, and helping investors make more informed decisions. Policymakers need to recognize the impact of their decisions on market sentiment and volatility and strive for greater clarity and transparency in their policies.