Global Markets

Financial markets continued to be in ferment as credit dried up. Uncertainty over the fate of the controversial U.S. bailout plan stirred debate throughout the week. The bill was ultimately passed by the House of Representatives on Friday afternoon (U.S. eastern time) and too late for overseas markets to immediately react. North American equities initially jumped at the news, then receded upon fiscal reality check. After the vote, the dollar was down against most other currencies while bonds rallied.

Investors who had virtually ignored economic data in the throes of the deepening financial crisis over the last several weeks suddenly awoke to the fact that the information had been dismal at best. And the stream of bad news continued unabated from almost every corner of the globe. Sinking purchasing managers indexes (except in China) and consumer sentiment surveys along with upward creeping unemployment and sinking factory orders indicated that the financial market woes had crossed over to the real economy. And Friday’s U.S. employment situation report confirmed the dour shape of the economy with employment sinking by 159,000 jobs. On Thursday, at his press conference following the European Central Bank meeting, president Jean Claude Trichet confirmed that a rate cut had been discussed but the governing council unanimously decided to keep its interest rate unchanged for now. Since the onset of the subprime woes and liquidity problems the ECB has steadfastly said that monetary policy was separate from financial market liquidity woes.

Throughout the week — with strains in the money markets showing no signs of abating — there were coordinated efforts among world central banks to boost dollar liquidity. The Federal Reserve, European Central Bank, Bank of Canada, Bank of England, Bank of Japan, Denmark's National Bank, Norges Bank, Reserve Bank of Australia, Riksbank and Swiss National Bank all participated in response to continued strains in short-term funding markets. The deepening gloom prompted some analysts to call for coordinated interest rate cuts from the Fed, ECB and Bank of England. But even after the massive liquidity injections, banks continued to hoard cash and to be unwilling to accept counterparty risk.

Equities were down across the board with the exception of mainland China — the markets there were closed all last week for a holiday. Bond yields dropped as risk aversion rose. But the dollar was underpinned by its safe haven status amid increasing worries over the response of European policy makers to the financial crisis.

Global Stock Market Recap

For the record...

Third quarter results were as dismal as they seemed. With the exception of the PSEi of the Philippines, all indexes followed here were down in the third quarter. The greatest losses were in Asia where declines ranged from 4.5 percent for the India Sensex to 24 percent for the Taiwan Taiex. In Europe, the FTSE lost 13 percent while the CAC and DAX lost 9.1 percent and 9.2 percent respectively. In North America, Canada’s S&P/TSX Composite was the big loser after holding up well in the first half of the year. The Dow was down 4.4 percent while the Nasdaq and S&P 500 were down 9.2 percent and 9 percent.

Europe and the UK

The FTSE, CAC and DAX managed to end the week’s trading on a strong positive note after a very volatile week. European stocks rallied the most in two weeks, led by financial companies, as investors speculated central banks will lower interest rates and as more U.S. lawmakers supported a $700 billion bank-rescue package. However, it was not sufficient to entirely salvage all of the week’s losses. The FTSE and CAC were down two of five days — Monday and Thursday — while the DAX also declined on Wednesday. The DAX was the big loser on the week. It was down 4.4 percent while the CAC was down 2 percent and the FTSE lost 2.1 percent. European markets were closed when the U.S. House of Representatives voted to pass the banking relief bill.

The financial troubles moved to Europe with governments having to launch bank rescues in several countries. Emergency action was being taken on Belgium's Fortis, Germany's Hypo Real Estate, UK's Bradford & Bingley and Iceland's Glitnir Bank. On Tuesday, ECB president Trichet said that banks’ efforts to clean up their portfolios and strengthen capital bases, as well as increased risk aversion, could have substantial impacts on the real economy. On Thursday, stocks were up initially but plummeted after the ECB left interest rates unchanged and warned of a weakening European economy. Gravity and declining U.S. markets and even tighter financial conditions pulled stocks down. Disappointing U.S. data rekindled recession fears and falling oil and gold prices hit commodity stocks.

Discussions among European Union leaders are to be held over the weekend (October 4) on whether the EU should coordinate deposit guarantees and bank rescues but avoid an EU-wide bailout fund. ECB president Trichet opined that EU governments should not try to copy the U.S. financial market rescue plan because there is no federal budget, so the idea that we could do the same did not fit the European political or institutional structure. The comments came as EU leaders clashed over how to protect their national banking sectors from the global financial crisis.

ECB holds the line but…

As expected and despite the chaos in world financial markets, the European Central Bank left their policy interest rate at 4.25 percent. ECB president Jean Claude Trichet has repeatedly said that the Bank’s goal is to prevent second round effects from running up consumer prices. However now wage demands are soaring and with them, inflation expectations. Since the beginning of the credit crisis, the ECB has separated its main monetary policy aimed at combating inflation from measures needed to lubricate credit markets. However, now the spillover to growth is becoming increasingly evident and the extraordinary events assailing financial markets has complicated the ECB’s jobs. Central banks around the world have aggressively stepped up to support financial markets, and have coordinated their efforts numerous times to provide additional liquidity.

In his press conference, Trichet said uncertainty remains extraordinarily high but the dip in oil prices could possibly support a gradual economic recovery in 2009. He said the Bank's governing council discussed the option of a rate cut, but the decision to hold rates steady was unanimous. The governing council makes decisions by consensus — the individual members do not vote. He added that upside risks to price stability have diminished, but not disappeared. Trichet effectively signaled to the markets that a rate cut may be in the ECB’s near term future. His comments suggested the ECB has become noticeably more pessimistic on growth prospects.

Asia/Pacific

Equities sank last week as uncertainty surrounding the U.S. rescue plan combined with higher borrowing costs to take a toll on investors. Focus now seems to be shifting to weakening economies as the U.S. slowdown spreads to other nations. The Nikkei was down 8 percent on the week — the most since August 2007 — while the Hang Seng dropped 5.4 percent. The worse than expected performance by most U.S. economic data forced investors to focus on growth fundamentals, and what they saw altered their views on the bailout package and whether it would be large enough to prevent the U.S. from slowing down further. Chinese markets were closed all week and holidays in many other Asian/Pacific countries limited losses.

Japanese stocks were sharply lower with the Nikkei closing below the 11,000 mark for the first time since May 18, 2005 on Friday. This was the worst week in 13 months. Losses were across the board, led by consumer finance and glass and ceramic issues, as well as exporters such as game creator Nintendo which declined due to strength in the yen. Brokers said investor sentiment was chilled by persistent worries about the health of the U.S. and Japanese economies as well as lingering uncertainty about the fate of the U.S. financial bailout package.

A slew of economic data — all negative — was released during the week. Industrial production dropped along with household spending while the unemployment rate edged upward. And the Bank of Japan's Tankan showed that Japanese business sentiment has turned pessimistic for the first time in five years.

The South Korean market was down 3.8 percent in a holiday shortened trading week. On the economic front, the deficit narrowed to US$1.9 billion in September from US$3.81 billion a month before, mainly due to crude oil and raw material price declines. Exports rose 28.7 percent from a year earlier while imports shot up 45.8 percent. In addition, the consumer price index increased 5.1 percent on the year in September down from 5.6 percent in the previous month.

Currencies

The euro dropped to a one year low against the dollar on Thursday after ECB president Trichet warned of slowing eurozone growth and revealed the Bank’s governing council considered cutting interest rates. Mr Trichet said recent data confirmed that economic activity was weakening while upside inflation risks had diminished. Analysts interpreted the comments to mean that the ECB had turned away from its hawkish monetary policy stance given the recent turmoil on financial markets. Analysts said the euro was also coming under pressure as investors questioned the ability of authorities in the region to act in a systemic manner to deal with problems in the banking sector. At the present time, there is a lot of confusion with regard to the level of the response. While some lawmakers have suggested coordinating efforts, some countries have already announced their own plans. The dollar was also up on increased demand for funding and reflecting banks' reluctance to lend to each other amid a global credit crunch. The only major currency to gain on the dollar was the yen.

Selected currencies — weekly results

Indicator scoreboard

EMU

August flash harmonized index of consumer prices declined to 3.6 percent from 3.8 percent when compared with last year. However, inflation remains 1.6 percent above the ECB’s target rate of 2 percent. As always with flash estimates, no detail will be available until the mid-month release of the full report. Within the larger EMU bloc, inflation fell in Germany (3.0 percent from 3.3 percent), Italy (3.7 percent from 4.2 percent) and Spain (4.6 percent from 4.9 percent).

August unemployment edged up to 7.5 percent from a revised 7.4 percent in July. The August reading was a 16-month high and was attributable to a 90,000 increase in the number out of work to 11.6 million. The latest increase in joblessness occurred despite a decline in Germany (7.2 percent from 7.3 percent) and in large part reflected sizeable increases in both France (8.0 percent from 7.8 percent) and Spain (11.3 percent from 11.0 percent). The smaller EMU states also seeing unemployment rates moving higher were the already recession-hit Ireland (6.2 percent from 5.9 percent) and Luxembourg (4.2 percent from 4.1 percent). However, a number of the other members saw joblessness decline including Cyprus (3.6 percent from 3.7 percent), Austria (3.3 percent from 3.4 percent), and Slovenia (4.2 percent from 4.3 percent).

August producer prices were down 0.5 percent and were up 8.5 percent when compared with last year and its second ever fastest pace. The monthly decline in the overall index was driven by lower fuel costs. Energy prices were down 2.5 percent from July (but still up 22.5 percent on the year). Excluding energy, the PPI was up 0.2 percent on the month and 4.3 percent on the year. Most of the other sectors posted moderate monthly increases led by intermediates (0.3 percent) and followed by non-durable consumer goods (0.2 percent) and capital goods (0.1 percent). Durable consumer goods prices were unchanged from their July level.

August retail sales were up 0.3 percent but were down 1.7 percent when compared with last year. Food sector registered a 0.7 percent monthly increase while non-food sales only crept up 0.1 percent. Regionally, the increase was driven by what appears to be an erratic 3.1 percent surge in Germany. Spain saw demand rise 0.8 percent while among the smaller EMU states sales in Luxembourg were up a very strong 6.8 percent and grew 1.4 percent in both Finland and Slovenia. On the downside, there were monthly declines in Austria (0.8 percent) and Belgium (0.2 percent).

EU

September economic sentiment declined to a five year low of 87.7 from 88.5 in August. Consumer confidence was unchanged at minus 19 while industry morale weakened to minus 12. Inflation expectations fell for the third month in a row and the outlook for factory gate prices slipped to its lowest level in ten months. But morale in the retail area actually improved to minus 8 from minus 10. Construction confidence dropped to minus 16 from minus 13 and edged a notch lower in services to 0 from plus 1. Sentiment was down in Germany and Spain but was up in both France and Italy.

Germany

September unemployment rate edged down to 7.6 percent from an upwardly revised 7.7 percent in August. The number of unemployed declined by 29,000 after dropping by 39,000 in August. Unemployment fell 11,000 in the West and 18,000 in the East.

August retail sales excluding autos and gasoline sales rebounded by 3.1 percent on the month following a revised 1.0 percent drop in July. This was the largest monthly increase since December 2006 (4.5 percent). However, sales were down 3 percent when compared with last year. Total retail sales were up a rousing 4.6 percent after dropping in the previous two months. However, on the year, total sales declined by 0.6 percent.

France

August producer prices declined 0.5 percent and were up 6.9 percent when compared with the same month a year ago. Excluding food and energy, the core PPI was up 0.3 percent and 3.1 percent on the year. The main downward thrust was provided by energy where prices slumped 3.1 percent on the month. Consumer prices also edged down 0.1 percent but there was another solid increase in intermediates (0.4 percent) alongside an incremental rise of just 0.1 percent in each of capital goods, autos and agriculture & food products.

Italy

Second quarter unemployment rate was 6.8 percent, up from a revised 6.6 percent reading in the first quarter. The second quarter advance was the fifth in a row and reflected a faster pace of increase in the labor force (0.6 percent) than in actual employment (0.4 percent). As usual there were sharply different performances between the various regions with the North showing the lowest rate at just 4.0 percent and the South the highest at 12.7 percent. The number of temporary contracts among salaried workers rose 6 percent from a year ago to 2.4 million and now account for 10.4 percent of the total, up from 9.9 percent a year ago. Part-time contracts were up 13 percent to 580,000.

August producer price index declined 0.2 percent and was up 8.2 percent when compared with last year. The drop was attributable mainly to a 1.7 percent monthly drop in energy. Excluding this sector, the PPI would have risen 0.2 percent on the month, leaving the annual core rate essentially unchanged at 4.2 percent. Among the major market sectors, the only other monthly decline was in capital goods (0.1 percent) while there were gains in consumer goods (0.1 percent) and intermediates (0.5 percent). By product category, minerals jumped 2.3 percent from July but manufacturing fell 0.5 percent, dominated by a 5.3 percent fall in coke & petroleum products.

United Kingdom

Second quarter gross domestic product was unrevised at unchanged and was revised to an increase of 1.5 percent when compared with last year. The new data confirm a 0.1 percent quarterly contraction in household expenditure but reduced the magnitude of the drop in gross domestic fixed capital formation to a still hefty 2.8 percent. Government expenditure was up 0.5 percent from the first quarter but total domestic expenditure still declined by 0.1 percent. Exports were flat over the period while imports fell 0.5 percent to allow a small positive contribution from net exports. By output sector, industrial production was down 0.7 percent on the quarter but service sector output grew 0.2 percent. In terms of prices, the GDP deflator was revised up to a 2.8 percent annual gain from previously 2.6 percent.

Asia/Pacific

Japan

August retail sales surprisingly were up 0.7 percent when compared with last year. Analysts thought that sales would decline by 1 percent on the year, especially after the jump in the previous month’s sales. July sales had been up 2 percent reflecting weather effects (unusually hot weather boosted spending on seasonal items such as air conditioners) and the Olympics (people purchased flat-panel TV sets to enjoy the games). Large scale retail stores sales however, sank 2.2 percent on the year.

August unemployment was 4.2 percent, up from 4 percent in July as expected and the highest in two years. The number of unemployed was up 230,000 when compared with last year. Employment was down 410,000 on the year. The job-to-applicant ratio declined to 0.86 from 0.89 in July. The participation rate rose to 60.4 percent from 60.3 percent in the previous month.

August industrial production sank by a much larger than expected 4 percent and is down 4.7 percent when compared with last year. Industrial production was up 1.3 percent in July but down 2.2 percent in June. Transport equipment, general machinery and electrical machinery output were down on the month. Large passenger cars, drive, transmission & control parts and semiconductor products machinery were also down. The data confirm that the Japanese economy is ailing. METI expects production to increase by 1.6 percent in September but edge down 0.1 percent in October.

Third quarter Tankan large manufacturers’ diffusion index dropped to minus 0.3 from plus 5 in the second quarter, the first negative reading in five years and the fourth quarterly sentiment decline in a row. Business confidence in most sectors continued downward as global economic conditions slow and the credit crunch worsens. The survey showed that because of these two concerns, corporate profits are eroding and making business planning more cautious. Small manufacturers’ index dropped further into negative territory with a reading of minus 17. Non-manufacturing index fell to a reading of plus 1 from the second quarter reading of plus 10. The all-industries Capex index, which measures capital expenditures by all Japanese industries except for the financial sector, showed large manufacturers and non-manufacturers plan to increase business investment by 1.7 percent in fiscal 2008. The Tankan index represents the difference of companies reporting favorable business conditions minus those reporting unfavorable ones. The survey was conducted between August 27 and September 30.

Australia

August retail sales were up 0.3 percent on the month and 3.2 percent when compared with last year. June and July were revised upward to gains of 0.3 percent from their original estimates of 0.1 percent. All industrials except other retailing (which declined 0.3 percent) where up. The largest increases were for food, clothing & soft good retails and cafes, restaurants & takeaway food services which all were up 0.5 percent. Retail sales have been soft because high interest rates and weak consumer sentiment are putting pressure on consumer spending.

August merchandise trade surplus was A$1,364 million after recording a deficit of A$697 million in July. The surplus was primarily due to the strong increase in non-rural and other goods exports combined with a decline in fuels and lubricants imports. Exports were up 6.4 percent with non-rural goods up 11 percent and rural goods up 4 percent. The increase in non-rural goods was largely driven by coal, coke & briquettes, which were up 26 percent and metal ores & minerals which were up 5 percent. Imports dropped 2.4 percent. Intermediate and other merchandise goods dropped 7 percent while other goods sank 11 percent and consumption goods were down 1 percent. Capital goods imports were up 6 percent.

Americas

Canada

July monthly gross domestic product was up 0.7 percent and 1.2 percent when compared with last year. The monthly gain was split between the goods producing sector, up 1.7 percent, and services, up 0.3 percent. Within the goods sector, mining, oil & gas extraction surged 4.2 percent. All other sectors posted gains except agriculture, forestry & fishing which were down 0.3 percent. Utilities were up 0.5 percent and manufacturing jumped 1.3 percent, while construction was flat. The more modest pick-up in service sector activity was largely due to wholesale trade (up 1.9 percent). Other gains were limited with no major industry beating the 0.3 percent mark. Accommodation & food category was down 1.4 percent while arts & entertainment dropped 0.5 percent.

August industrial product price index was down 0.2 percent and up 8.1 percent when compared with last year. The monthly decline was driven by a 6.0 percent drop in petroleum & coal product prices without which the IPPI would have risen 0.8 percent from July and 3.8 percent from a year ago. The other major negatives were posted by fruit & vegetables (1.2 percent) and primary metal products (3.1 percent). Categories displaying the largest monthly advances were lumber & wood products (2.4 percent), pulp & paper (2.0 percent), motor vehicles & other transport equipment (2.6 percent) and electrical communications products (1.4 percent). Miscellaneous manufactured products also posted a sizeable advance (4.4 percent). The raw materials price index sank 7.7 percent on the month and was up 22.7 percent on the year thanks to the sharp drop in overall raw material and fuel costs. Mineral fuels plummeted 11.3 percent. Excluding mineral fuels, the RMPI would have declined 1.8 percent on the month. Among the other major groupings, there were declines in vegetable products (2.9 percent), non-ferrous metals (6.1 percent) and wood (0.1 percent). Increases were posted by animals & animal products (1.8 percent), ferrous metals (1.1 percent) and non-metallic minerals (1.7 percent).

Bottom line

In a week filled with tension and uncertainty, financial markets acted predictably — equities were down while the dollar rallied. The European Central Bank, although leaving its key rate at 4.25 percent, warned ominously of slower eurozone economic growth and left the door ajar for a possible rate cut. Oh yes — Congress passed the financial rescue package.

Next week brings a slew of central bank meetings including the Reserve Bank of Australia, the Bank of Japan and the Bank of England. Bank of Japan is unlikely to consider lowering its 0.5 percent interest rate given its limited scope to move. Both the RBA and the Bank of England are expected to lower rates.

Looking Ahead: October 6 through October 10, 2008

Anne D Picker is the author of International Economic Indicators and Central Banks.