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ARTICLE ARCHIVES

INTERNATIONAL PERSPECTIVE

Downgrades weigh on euro
Econoday International Perspective 1/13/12
By Anne D. Picker, Chief Economist

  

Global Markets

What had been essentially a good week for equities on Friday turned sour in Europe, the UK and North America after Eurozone downgrade talk sent investors fleeing from risky assets. The euro dropped quickly as did equities. However, while most indexes were lower for the day, they managed for the most part to retain at least a part of earlier advances. For the week, gains ranged from 3.8 percent (Shanghai Composite) to 0.6 percent (KLCI). Losses were incurred by the FTSE (down 0.2 percent), the SMI (down 0.3 percent) and the Bolsa (down 0.7 percent).

 

European government debt auctions continue to get heightened attention from equity market participants who are quick to sell/withdraw from the market if the auctions do not meet or exceed expectations. For example, Italy successfully sold about €4.75 billion of bonds on Friday, capping a relatively strong week for European government short dated debt auctions as investor sentiment towards the Eurozone shows signs of improvement. Spain and Italy have benefited from the ECB’s three year loan facility offered to banks in the region that were facing liquidity problems at the end of last year.

 

After markets in the U.S. had closed for the week, S&P confirmed what had been previously expected — it had downgraded France and Austria from AAA to AA+. Germany, the Netherlands, Finland and Luxembourg kept their triple A ratings. S&P also downgraded Italy to BBB+ from A. Spain was downgraded to A from AA-. Portugal’s rating was lowered to BB from BBB-. All had their outlooks lowered to negative. At the same time, S&P confirmed Germany’s AAA rating but changed the country’s outlook to stable. Ireland’s BBB+ rating was confirmed but the outlook was revised to negative. S&P criticized recent EU policy initiatives saying that they might be insufficient. They also said that reforms based only on austerity risk being self-defeating.


 

Global Stock Market Recap

2011 2012 % Change
Index Dec 30 Jan 6 Jan 13 Week Year
Asia/Pacific
Australia All Ordinaries 4111 4164.5 4255.4 2.2% 3.5%
Japan Nikkei 225 8455.35 8390.4 8500.0 1.3% 0.5%
Hong Kong Hang Seng 18434.39 18593.1 19204.4 3.3% 4.2%
S. Korea Kospi 1825.74 1843.1 1875.7 1.8% 2.7%
Singapore STI 2646.35 2715.6 2791.5 2.8% 5.5%
China Shanghai Composite 2199.42 2163.4 2244.6 3.8% 2.1%
 
India Sensex 30 15454.92 15867.7 16154.6 1.8% 4.5%
Indonesia Jakarta Composite 3821.99 3869.4 3935.3 1.7% 3.0%
Malaysia KLCI 1530.73 1514.1 1523.1 0.6% -0.5%
Philippines PSEi 4371.96 4483.4 4613.8 2.9% 5.5%
Taiwan Taiex 7072.08 7120.5 7181.5 0.9% 1.5%
Thailand SET 1025.32 1036.3 1044.8 0.8% 1.9%
 
Europe
UK FTSE 100 5572.28 5649.7 5636.6 -0.2% 1.2%
France CAC 3159.81 3137.4 3196.5 1.9% 1.2%
Germany XETRA DAX 5898.35 6057.9 6143.1 1.4% 4.1%
Italy FTSE MIB 15089.74 14645.6 15011.1 2.5% -0.5%
Spain IBEX 35 8566.3 8289.1 8450.6 1.9% -1.4%
Sweden OMX Stockholm 30 987.85 1002.2 1009.0 0.7% 2.1%
Switzerland SMI 5936.23 6013.8 5996.3 -0.3% 1.0%
 
North America
United States Dow 12217.56 12359.9 12422.1 0.5% 1.7%
NASDAQ 2605.15 2674.2 2710.7 1.4% 4.1%
S&P 500 1257.6 1277.8 1289.1 0.9% 2.5%
Canada S&P/TSX Comp. 11955.09 12188.6 12231.1 0.3% 2.3%
Mexico Bolsa 37077.52 36804.1 36528.0 -0.7% -1.5%

 

Europe and the UK

Investors here continued to focus on auction results of Eurozone member states and especially Italy and Spain. The auctions came in for close scrutiny, as analysts feared that low demand could signal lack of confidence in the debt-stricken economies and increase borrowing costs. The Italian FTSE MIB index outperformed other European indexes after the government succeeded in selling €12 billion at low borrowing costs. The yield on the 12-month bills sold at the auction slid to 2.74 percent from 5.95 percent in a December sale. Shares of Italian banks rallied on the news. Auctions in Spain also satisfied investors, as the government sold nearly €10 billion in government debt, topping its target range of €4 billion to €5 billion. Yields on bonds with various maturities declined across the board compared to recent auctions.

 

Lurking in the background has been the ongoing reviews by the credit rating agencies of most EMU member states. Earlier in the week, Fitch warned that the European Central Bank should take a more active role in buying troubled Eurozone debt to avert a collapse of the euro. Although Fitch said a collapse of the euro was not its baseline scenario, it urged the ECB to scale up its purchases of troubled euro zone debt like Italy and drop its resistance to the bloc's bailout fund to prevent a break out from happening.

 

And on Friday, news that S&P was about to announce downgrades of several Eurozone countries including France, sent equities in Europe and the U.S. lower. The euro and to a lesser extent the pound sterling were down. Most equity indexes managed to stay positive for the week with the exception of the FTSE and SMI which slipped 0.2 percent and 0.3 percent respectively. The CAC was up 1.9 percent and the DAX, 1.4 percent. The FTSE MIB jumped 2.5 percent.

 

Swiss National Bank Chairman Philipp Hildebrand resigned with immediate effect last Monday, saying he could not prove he had been unaware of a controversial currency trade made by his wife and wanted to protect the integrity of the central bank. Hildebrand's decision to resign came as Swiss parliamentarians met to discuss the scandal, which erupted last week after Sarasin Bank sacked an employee who leaked details of the trade to a political opponent of the central banker.

 

The SNB's supervisory council said in a statement that Vice Chairman Thomas Jordan, who joined the SNB in 1997, would take over as chairman for the time being and the free position on the governing board would be filled as soon as possible. Jordan and board member Jean-Pierre Danthine reiterated the Bank’s determination to stick to the cap on the franc at 1.20 per euro imposed on September 6, "with utmost determination."


 

Bank of England

The Bank of England kept its key interest rate at 0.5 percent where it has been since March 2009. It also left the ceiling of its asset purchase program at Stg275 billion. The BoE is widely expected to announce further monetary stimulus in February, which coincides with the release of its quarterly Inflation Report. Analysts remain convinced that while another cut in interest rates would be seen by most MPC members as a waste of time, the majority would view a further increase in QE next month in a much more constructive light.

 

Recent mixed economic news in Britain had bolstered the view that the Bank might want to wait until February before deciding on more QE. By then the current round of asset purchases will be concluded and the bank will have its latest growth and inflation estimates. And with the government's hands tied by its pledge to erase the country's large budget deficit in order to defend its top credit rating, the onus is on the BoE. Industrial output, which accounts for around 15 percent of the economy, posted a surprise drop in November. According to some economists, that added to signs of an economic contraction in the final quarter of 2011. However, the National Institute of Economic and Social Research (NIESR) estimated that the economy still grew in the period, albeit very slightly.


 

European Central Bank

As expected, the European Central Bank left its key interest rate on hold at 1.0 percent. It paused to assess the impact of its rate cuts in November and December along with a slew of other measures unleashed since late last year that are showing signs of helping fight the area’s debt crisis. The ECB’s flood of cheap three year money is helping the Eurozone’s banking system and is supporting confidence in the bloc's economy which is showing some signs of stabilisation, according to ECB Mario Draghi. "The extensive recourse to the first three year refinancing operation indicates that our non-standard policy measures are providing a substantial contribution to improving the funding situation of the banks, thereby supporting financing conditions and confidence," Draghi told a news conference after its meeting on Thursday.

 

To help fight the debt crisis, the ECB provided banks with nearly half a trillion euros of three year money in December — called LTRO — and will make a similar offer in February. Banks remain very reluctant to lend to each other, so the ECB's action has helped keep the system working although there is less evidence that the money is making its way into the real economy. European stocks struggled for direction on Thursday, giving back most of their early gains after the European Central Bank decided against further easing measures.


 

Asia Pacific

Equities advanced last week after successful bond auctions in Spain and Italy stoked optimism that European leaders would tackle the region's debt crisis. Firm base metal prices and positive news out of Europe helped investors shrug off lackluster economic data out of the U.S. Gains ranged from 0.6 percent (KLCI) to 3.3 percent for the Hang Seng and 3.8 percent for the Shanghai Composite. However, China and U.S. growth worries continue to combine with the ongoing sovereign debt crisis in Europe to make investors uneasy and apt to sell on rumor or fact. It should be noted that markets here were closed prior to the rumors that France and other Eurozone member states would be downgraded by S&P late Friday after U.S. markets had closed for the week. Helping sentiment was Thursday’s remarks from the European Central Bank that said there are "tentative signs" of stabilization in the euro region, even as there remain "substantial downside risks," to the growth outlook.

 

In economic news, Japan’s November current account surplus disappointed. It was ¥138.5 billion — well shy of expectations for a surplus of ¥248.4 billion following the ¥562.4 billion surplus in October. In China, December’s CPI remained above 4.0 percent shaking analysts’ belief that monetary policy would ease along with inflationary pressures. The PPI however did show promise — it was up 1.7 percent on the year. December’s merchandise trade surplus was weaker than anticipated. Australia’s retail sales were weak.


 

Bank of Korea

The Bank of Korea kept its key interest rate unchanged at 3.25 percent for the seventh straight month as expected. The BoK last increased rates in June 2011. The committee said that the major advanced economies have remained sluggish and growth in emerging market economies to have also slowed somewhat. The Bank expects the pace of global economic recovery to be very moderate and judges that the downside risks to growth are becoming larger, due mostly to the sovereign debt crisis in Europe and to the possibilities of slumps in major country economies and continued unrest in international financial markets. Analysts had widely expected no change even though December consumer prices in December remained at 4.2 percent for the second straight month keeping overall inflation above the central bank's target range of 2 to 4 percent.


 

Currencies

The euro slid Friday — undoing gains made following better than expected sovereign debt auctions — on reports some Eurozone countries would be downgraded by S&P. Speculation in the market suggested that France and Austria would see their ratings trimmed, but Germany would escape censure. The single currency’s slide triggered a broad sell-off across risk assets as traders’ earlier hopes that the Eurozone fiscal crisis could be easing are challenged. News that talks between Greece and its bondholders had broken down also raised concerns that Athens faced a “messy” default on its debt, a move that could increase the uncertainty within the region’s financial system.

 

The possible downgrades cast a shadow on the generally more optimistic tone which had pervaded the market after successful debt auctions in Europe. The successful auctions eased fears that the continent’s fiscal funding difficulties would hobble global growth. But investors fear that a downgrade for the likes of France would revive the Eurozone’s sovereign debt angst and hit the region’s confidence hard.


 

The trade weighted dollar in 2011

The U.S. dollar's decline in value against several of its major counterparts finally came to a halt. According to the Federal Reserve, the dollar started to display strength for the first time in three years in 2011. The trade weighted dollar index against the euro, yen, pound sterling and other major currencies climbed to 73.33 (May 1973=100) at the end of 2011 from 73.20 a year ago.

 

Following the onset of the 2008 global financial crisis, the index fell for two straight years on the back of the slumping U.S. economy and the rising strength of emerging markets. Fears of a double dip recession, the first ever downgrade of America's perfect "AAA" sovereign credit rating and speculation over the Fed's prolonged, ultra-loose monetary policy pushed the index down to a historic low of approximately 68 in late July 2011.

 

However, tide changed when the Greek sovereign debt crisis spilled over into the rest of Europe, causing the euro and pound to fall sharply against the U.S. currency. Risk averse investors resorted to selling emerging market currencies and flocked back to the dollar, which has long been seen as a safe haven. As a result, the dollar index surpassed the level seen at the beginning of the year. In 2011, the dollar rose against the euro by more than 3 percent on average. It also gained against the Swiss franc and the pound. The dollar declined against the Japanese yen and Chinese yuan.


 

Selected currencies — weekly results

2011 2012 % Change
Dec 30 Jan 6 Jan 13 Week 2012
U.S. $ per currency
Australia A$ 1.023 1.023 1.031 0.7% 0.8%
New Zealand NZ$ 0.778 0.781 0.793 1.5% 1.9%
Canada C$ 0.982 0.974 0.978 0.4% -0.4%
Eurozone euro (€) 1.294 1.272 1.269 -0.3% -2.0%
UK pound sterling (£) 1.554 1.543 1.533 -0.7% -1.4%
 
Currency per U.S. $
China yuan 6.295 6.310 6.307 0.0% -0.2%
Hong Kong HK$* 7.767 7.765 7.767 0.0% 0.0%
India rupee 53.065 52.723 51.529 2.3% 3.0%
Japan yen 76.975 76.998 76.941 0.1% 0.0%
Malaysia ringgit 3.168 3.151 3.132 0.6% 1.1%
Singapore Singapore $ 1.297 1.294 1.293 0.1% 0.3%
South Korea won 1152.450 1162.750 1148.400 1.2% 0.4%
Taiwan Taiwan $ 30.279 30.233 29.974 0.9% 1.0%
Thailand baht 31.580 31.680 31.640 0.1% -0.2%
Switzerland Swiss franc 0.939 0.955 0.952 0.3% -1.3%
*Pegged to U.S. dollar
Source: Bloomberg

 

Indicator scoreboard

EMU

November industrial production slipped 0.1 percent on the month and was down 0.3 percent on the year. Industrial output has now declined for three consecutive months. Except for energy which recorded a 0.5 percent monthly gain, there was little good news. Production in both the intermediate and capital goods sectors was unchanged on the month while both durable and nondurable consumer goods contracted 0.8 percent, the former having now declined in each of the last four months. Regionally, much of the damage was caused by a 1.0 percent drop in Germany, but there were sizeable losses too in Spain (1.0 percent), Portugal (1.6 percent) and Slovakia (2.4 percent). Greece reported a 1.1 percent gain but this followed a 5.6 percent slump in October, and output levels there are still 8.2 percent lower on the year. Apart from Germany (3.2 percent), none of the countries reporting managed annual growth of more than 0.8 percent (France) and most were well into negative figures, including Italy.


 

November seasonally adjusted merchandise trade surplus was €6.1 billion, up from a larger revised surplus of €0.5 billion in October and the strongest reading since July 2004. The unadjusted data posted a surplus of €6.9 billion. The sharp improvement in the adjusted headline was due to a 3.9 percent monthly jump in exports to a new record high. By contrast, imports were only unchanged. As a result, annual growth of exports now stands at 10.0 percent, well ahead of a 4.0 percent increase in imports. A €1.1 billion widening in the German surplus contributed to the surplus gain but a switch in the French balance from a €0.4 billion deficit to a €2.1 billion excess was more important. However, both Italy (€1.7 billion) and Spain (€3.6 billion) again recorded shortfalls as did, on a smaller scale, Portugal (€0.2 billion).


 

Germany

November seasonally adjusted merchandise trade surplus widened out markedly to €15.0 billion from a marginally smaller revised €12.5 billion in October, its second highest level so far in 2011. The unadjusted surplus was €16.2 billion, up from €11.4 billion in October. The jump reflected mainly a 2.5 percent monthly bounce in exports although a 0.4 percent decline ensured that imports also made a small positive contribution. Annual export growth now stands at 8.3 percent compared with a 6.7 percent gain in imports. Sales to other EMU countries were up 7.7 percent on the year and 9.8 percent to other non-EMU EU countries. Purchases by non-EU nations were up 8.2 percent.


 

November industrial production dropped 0.6 percent and was up 3.6 percent on the year. The decline was broad based but led by the basics category where output dropped 1.4 percent on the month. Capital goods were down 1.0 percent and consumer goods slid 0.7 percent, within which durables slumped 3.3 percent. With energy off 0.4 percent, the only area of strength was construction where production was up 4.5 percent. Manufacturing output declined 1.0 percent from the start of the quarter.


 

France

November seasonally adjusted merchandise trade gap narrowed from a smaller revised €5.6 billion in October to €4.4 billion and the best outcome since October 2010. The improvement reflected a 3.3 percent monthly bounce in exports to a near record level and broadly flat imports. Shipments of transportation equipment — notably aeronautics — were especially robust and there were solid gains too in pharmaceuticals and mechanical products. Meantime, imports were held in check as weakness in agriculture and energy offset a rebound in aircraft purchases.


 

November industrial production (excluding construction) jumped 1.8 percent on the month following a slightly stronger revised 0.1 percent gain in October. On the year, annual production was 0.9 percent. The rebound was broad based with sizeable monthly increases in electronics and machines (2.0 percent), transport equipment (1.3 percent), refining (2.2 percent) and the other manufactured goods sector (1.4 percent). Food advanced 0.8 percent and overall manufacturing output was up 1.3 percent from October. Seasonally warm weather contributed towards a 0.7 percent contraction in energy and the same factor may have helped construction to increase 0.8 percent.


 

Italy

November industrial production posted a modest 0.3 percent monthly rebound. However, following declines of 4.7 percent and 0.9 percent in September and October respectively, workday adjusted annual growth was down 4.1 percent. Over the last three months, output was down 3.0 percent. In November alone, production was supported by the consumer sector which was up 1.5 percent. However, while this compounded a 0.3 percent increase at the start of the quarter, it still failed to make up for September's 5.1 percent plunge. Energy (up 0.8 percent) also posted positive growth but both the capital goods area and intermediates saw a 0.3 percent drop from their respective October levels.


 

United Kingdom

November merchandise goods trade gap widened out to Stg8.6 billion from a slightly larger revised Stg7.9 billion at the start of the quarter. However, the shortfall was still well short of the record Stg10.2 billion deficit recorded in September. The latest deterioration was a reflection of a 1.5 percent monthly drop in nominal exports and a 1.1 percent increase in imports. At the same time, the volumes data revealed a slightly larger 1.7 percent drop in exports on the month which was attributable to broad based declines among the major sectors. Real imports matched their 1.1 percent nominal gain with a surge in chemicals (15.7 percent) more than offsetting weakness in capital goods (down 4.0 percent). Excluding oil and erratics, the deficit increased from Stg6.6 billion in October to Stg7.3 billion. However, this was comfortably less than the Stg8.8 billion posted at the end of the third quarter. Regionally the bilateral balance with the rest of the EU saw a deficit of Stg3.6 billion, up from Stg3.3 billion last time, while the shortfall with the rest of the world worsened by Stg0.4 billion to Stg5.0 billion.


 

November industrial production dropped 0.6 percent and was down 3.1 percent on the year. Manufacturing output slid 0.2 percent and was down 0.6 percent. Within manufacturing, the main contributors to the monthly decline were basic metals & metal products, which dropped 2.4 percent, along with wood & paper which was down 2.5 percent. There was also a 2.7 percent slide in chemicals & chemical products. On the upside, transport equipment saw output advance 2.9 percent from October. Overall industrial production was also hit by a 2.2 percent monthly slide in both the mining & quarrying category and in energy. Together, these subtracted 0.4 percentage points from the headline index.


 

December producer output prices were down 0.2 percent on the month, reducing their annual growth rate from 5.4 percent in November to 4.8 percent, the slowest pace in a year. At the same time, input costs dropped an even steeper 0.6 percent from mid-quarter and in so doing cut their annual rate by nearly 5 percentage points to 8.7 percent. The monthly decline in output prices was mainly attributable to a 0.9 percent drop in the cost of both petroleum products and chemicals. Transport prices (down 0.2 percent) were also weak and the strongest increase was only 0.2 percent (other manufactured products). Core factory gate prices edged 0.1 percent lower from November and were up 3.0 percent on the year, down some 0.7 percentage points from their September peak. Input costs were dragged lower by sharp monthly declines in crude oil (1.0 percent) and imported chemicals (1.3 percent). However, there were also sizeable declines in imported metals (0.7 percent), imported parts & equipment (0.6 percent) and other imported materials (0.7 percent). Outside of fuel (0.1 percent) and home food (0.5 percent) all sub-sectors saw either no change or a monthly decline in prices.


 

Asia/Pacific

China

December consumer prices were up 4.1 percent on the year after increasing by 4.2 percent in November. Since soaring by 6.5 percent in July, consumer price inflation has declined in each month since. For all of 2011, the CPI was up 5.4 percent after increasing 3.3 percent in 2010. On the month, the CPI was up 0.3 percent after slipping 0.2 percent in November. Both the rural and urban CPIs were up 4.1 percent on the year after increasing 4.3 percent and 4.2 percent respectively in November. Food prices jumped 9.1 percent after increasing 8.8 percent in November and 11.9 percent in October. Non-food prices were up 1.9 percent. Tobacco & alcohol were up 3.9 percent while clothing prices were 3.8 percent higher. Health care prices eased to an increase of 2.8 percent from 3.2 percent the month before.


 

December producer prices were up 1.7 percent on the year after increasing 2.7 percent the month before. For the year 2011, producer prices were up 6.0 percent after increasing 5.5 percent in 2010. On the month, the PPI slid 0.3 percent after dropping 0.7 percent in November. Raw material prices were up 3.5 percent on the year while production materials were up a modest 1.4 percent. Consumer goods were up 2.5 percent after rising 3.1 percent the month before. Within consumer goods, food & related products were up 4.3 percent after rising 5.2 percent. Clothing & related items were up 3.6 percent after 3.8 percent the month before.


 

Australia

November seasonally adjusted retail sales were unchanged on the month after increasing by 0.2 percent in October. On the year, sales were up 3.1 percent after increasing 3.3 percent in October. Other retailing was up 0.3 percent while cafes, restaurants & takeaway food services edged up 0.1 percent. Both food retailing and household goods were relatively unchanged on the month. Clothing, footwear & personal accessory retailing was down 0.4 percent while department stores slipped 0.1 percent.


 

Americas

Canada

November trade surplus was C$1.1 billion after recording a revised deficit of C$0.5 billion the month before. The improvement reflected a 3.2 percent monthly increase in exports together with a 0.8 percent drop in imports. The bilateral surplus with the U.S. widened out to C$4.6 billion from C$3.5 billion last time. The rebound in nominal exports was led by a 6.0 percent monthly jump in energy and a near-5 percent bounce in autos, backed up by a 4.0 percent increase in industrial goods & materials. Agriculture & fishing products (2.6 percent) also fared well. On the downside, exports of forestry products dropped 4.6 percent and the other consumer goods category saw a 2.0 percent decline. Imports were checked by weakness in autos which saw a 4.4 percent drop on the month combined with a 3.0 percent decline in industrial goods & materials. Additionally, drops were recorded in machinery & equipment (1.1 percent) and forestry products (1.9 percent). However, declines here were to some extent offset by a 2.0 percent increase in energy and a 1.8 percent gain in agriculture & fishing. Other consumer goods (0.8 percent) also recorded positive growth.


 

Bottom line

Economic data were mixed last week globally. German industrial output disappointed while Italy’s surprised. Both the Bank of England and the European Central Bank decided to leave policy unchanged as did the Bank of Korea. The week ended on a down note when S&P announced that it was downgrading France along with Italy, Spain and Portugal.

 

China releases December data for industrial production and retail sales along with its estimate of fourth quarter GDP growth. Australia’s employment data are on tap as well. Among the many events on the European calendar are the German ZEW survey and the Eurozone’s HICP along with the UK’s CPI on the calendar as well. But most investors will continue to monitor the events surrounding the sovereign debt crisis closely after late Friday’s downgrades.


 

Looking Ahead: January 16 through January 20, 2012

Central Bank activities
January 17 Canada Bank of Canada Monetary Policy Announcement
 
The following indicators will be released this week...
Europe
January 17 Eurozone Harmonized Index of Consumer Prices (December)
Germany ZEW Business Survey (January)
UK Consumer Price Index (December)
January 18 Italy Merchandise Trade (November)
UK Labour Market Report (December)
January 20 Germany Producer Price Index (December)
France Consumption of Manufactured Goods (December)
UK Retail Sales (December)
 
Asia/Pacific
January 16 Japan Corporate Goods Price Index (December)
Machine Orders (November)
January 17 Japan Tertiary Sector Activity Index (November)
January 19 Australia Labour Force Report (December)
 
Americas
January 19 Canada Manufacturing Sales (November)
January 20 Canada Consumer Price Index (December)

 

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


 

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