Global Markets

The European summit exceeded expectations and in the face of pressure from Italy and Spain, EU leaders agreed to use bailout funds to recapitalize struggling banks directly without adding directly to the sovereign debt of countries. This has been a problem for Spain and potentially could be for Italy. Though German chancellor Angela Merkel made concessions, they came with conditions. Details remain unclear Friday, prompting calls for more clarity to be provided quickly. The 17 different bank supervisors of the 17 member states will be replaced by one regulator for all Eurozone banks, an important step towards a so-called banking union that is probably the most significant change to the single currency area since it was created.

The agreement came after the Italian and Spanish leaders said they would block all other agreements — on a €130 billion ($163 billion) growth pact, for example — until their colleagues did something to help take the pressure off. If Italy and Spain were unable to roll over their debt in the markets, there would be a threat to the euro in the short to medium term. As a condition, the leaders agreed that the Eurozone’s permanent bailout fund, the €500 billion European Stability Mechanism due to come into being in July, will require a banking supervisory body overseen by the European Central Bank to be set up. This is expected to happen by the end of the year. 

Equities globally along with the euro rallied. Strains in the European government bond market also eased, with yields on Italian and Spanish bonds falling sharply. But as the day progressed, analysts and financial commentators began to question the strength of the underlying political agreements and the detail of what the EU leaders had signed up to do, particularly over timing and the sequence of events.

Under the revised rules demanded by Italy, countries that want the Eurozone bailout fund to purchase their bonds — an essential way of lowering their borrowing costs — will no longer be subject to Greek-style monitoring programs. Instead, they would simply have to maintain their EU debt and deficit commitments, though EU authorities could mandate tighter deadlines and timetables. In exchange for the concessions, a German-led group of northern creditor countries will gain more control over all of the Eurozone banks through the new single supervisor.

The deal was particularly important for the Spanish Prime Minister Mariano Rajoy, who had resisted German pressure over the past two weeks to accept tougher bailout terms and can now return to Madrid with an agreement in hand that eases concerns over Spain’s creditworthiness by ensuring that the rescue will not add to the country’s sovereign debt. Spain also ensured that, when its banks are bailed out by the Eurozone rescue fund, the fund will not be treated as a preferred creditor. This prospect had deterred some private investors since, in the event of a default, they would have faced proportionately bigger losses.

For the week and the month of June, most indexes advanced. However, that was not the case for the second quarter. The quarterly results were mixed, with only the Sensex, KLSE Composite, PSEi and Bolsa advancing.

Global Stock Market Recap

Global Stock Market Recap — Quarterly Results

Europe and the UK

Equities soared on the last day of June and the second quarter of the year after European leaders said they would speed plans to create a single supervisor for the Eurozone's banks. They agreed that the Eurozone's bailout funds should be able to directly boost the capital of struggling banks, without adding to government debt. Equities soared as Spanish and Italian government bond yields declined. The FTSE was up 1.0 percent on the week and 5.0 percent for the month. The CAC and DAX jumped 3.4 percent and 2.4 percent respectively on the week. In June, the CAC soared 6.0 percent while the DAX matched its weekly gain of 2.4 percent. The SMI was up a respectable 1.3 percent and 3.7 percent. However, the gains in June were not sufficient to wipe away losses incurred in April and May — and all were down for the quarter. The FTSE lost 3.4 percent, the CAC slid 6.6 percent, the DAX dropped 7.6 percent and the SMI was down 2.7 percent.

After 13 1/2 hours of talks ending at 4:30 a.m. in Brussels Friday, leaders of the 17 euro nations dropped the requirement that governments get preferred creditor status on crisis loans to Spain’s banks and opened the door to recapitalizing lenders directly with bailout funds once Europe sets up a single banking supervisor. They also discussed reducing the market pressure on Italy and Spain by allowing them to access rescue loans without relinquishing control of their economies. Attention now turns to the European Central Bank, which holds its next policy meeting on July 5^th. The bank has acted following political progress before, buying bonds after the establishment of bailout programs in 2010, for example, and giving banks unlimited three-year loans following last year’s pledge to deliver fiscal discipline.

Asia Pacific

Equities mostly advanced last week — the exceptions were the Shanghai Composite and the KLCI. Equities here as elsewhere, ended the month and quarter with a rally Friday on the surprise news from the European summit that an agreement had been reached to help banks in Spain and Italy. The European Commission said it would present proposals for a single supervisory mechanism soon to make use of Eurozone's bailout funds to recapitalize the region's banks directly. The EU leaders also approved a €120 billion package to promote growth in the Eurozone and the 27-nation European Union. They discussed ways to reduce the high borrowing costs faced by Spain and Italy.

In the month of June, only the Shanghai Composite (down 6.2 percent) and the Taiex (down 0.1 percent) were lower. The All Ordinaries were virtually unchanged while advances ranged from 0.6 percent (Kospi) to 7.4 percent (Sensex). The Hang Seng and Nikkei were up 4.4 percent and 5.4 percent respectively. The picture for the second quarter was not as favorable however. Only three of the 12 indexes followed here managed to record gains from the first quarter — the Sensex edged up 0.1 percent, the KLSE Composite was 0.2 percent higher while the PSEi was up 2.7 percent. Losses ranged from 1.7 percent for the Shanghai Composite to 10.7 percent for the Nikkei.

Currencies

The U.S. dollar reversed direction on Friday and declined against all of its major counterparts for the day and week after the European agreement was announced. The market’s ‘risk on’ tone reversed recent safe haven flows. The dollar looked to gain on the week before the announcement was made. Investors shed risk and the need for a safe haven in the U.S. After the marathon talks ended early Friday morning, euro country leaders agreed that banks can also be recapitalized directly with European bailout funds rather than the funds being channeled through governments.

The euro surged against the haven currencies but its advance elsewhere was muted. The euro however eased back from highs reached in Asia, suggesting that some of the post summit euphoria may already be waning, while Spain's and Italy's bond yields had begun to drift higher again, though they were still down on the day. On Thursday, the euro hit a fresh three week low against both the dollar and Japanese yen after a brief, sharp selloff in early European trading as investors pared back their expectations for meaningful progress at the summit.

Selected currencies — weekly results

Indicator scoreboard

EMU

June economic sentiment was down for the third month running with a reading of 89.9 after a marginally weaker revised 90.5 in May. The June outcome was the worst reading in 32 months and leaves the headline index more than 10 points shy of its long run average. The latest dip reflected mixed readings among the major sectors. While morale was down 1.3 points to minus 12.7 in industry and 2.2 points off at minus 7.4 in services, it was up 2.1 points to minus 28.1 in construction and was 3.2 points higher at minus 14.9 in retail. Consumer confidence was little changed at minus 19.8 after minus 19.5. Among the larger EMU members, sentiment dropped 1.5 points in France and 1.4 points in Germany but made much needed, if limited headway, in both Italy (0.9 points) and Spain (1.0 points).

June flash harmonized index of consumer prices was up 2.4 percent from a year ago and unchanged from the month before. Details will be released on July 16 but the steady headline figure will be sufficient to underpin speculation that the ECB will at least point to a near term policy ease next week. Regionally among the larger EMU states, inflation fell 0.2 percentage points in Germany to 2.0 percent and by a tick to 1.8 percent in Spain. By contrast, Italy saw its rate edge a notch higher to 3.6 percent.

May M3 money supply growth was 2.9 percent on the year, up from 2.5 percent the month before. The ECB’s preferred measure — the 3 month moving average — edged up to 2.8 percent from 2.7 percent. Within the key private sector lending counterpart credit extended to general government was up 9.0 percent on the year after a 7.6 percent increase in April. Annual growth of loans to the household sector dropped from 0.5 percent to 0.3 percent within which borrowing for house purchase shed 0.3 percentage points to 0.7 percent. Lending to non-financial corporations similarly slowed by an equivalent amount to a minimal 0.1 percent 12-month rate while borrowing by non-monetary financial intermediaries (excluding insurance corporations and pension funds) was down 2.1 percent on the year after a 1.4 percent decline last time.

Germany

June joblessness was up 7,000 on the month while the unemployment rate was unchanged at May's upwardly revised 6.8 percent. The jobless total now stands at 2.882 million and with vacancies down a further 4,000 after a 5,000 drop in May. However, the pace at which the demand for labour is weakening is unclear. Hence, the lagging ILO data showed a respectable 37,000 increase in employment in May, up from a 35,000 advance in April. Although well down on the gains reported for much of 2011, this was still the 27th consecutive monthly increase and left the employment total at a record 41.53 million.

France

First quarter gross domestic product was unrevised at unchanged from its level at the end of 2011. Stagnation followed a 0.1 percent gain in the fourth quarter and saw annual growth of 0.3 percent. Final domestic demand added just 0.1 percentage points to the bottom line, reflecting a modest 0.2 percent quarterly rise in household consumption and a 0.5 percent gain in public sector spending. However, within a 0.7 percent drop in gross fixed capital formation, business investment was down 1.3 percent and household investment 0.3 percent lower. Inventory accumulation boosted GDP by 0.1 percentage points. Imports were up 0.8 percent from the fourth quarter which, with exports increasing just 0.2 percent, left net foreign trade subtracting 0.2 percentage points from quarterly growth after a positive contribution of 0.8 percentage points last time.

May consumer spending on manufactured goods rebounded 1.4 percent. This more than reversed April's 1.3 percent drop and left purchases in mid-quarter 0.2 percent higher on the year. Durable goods sales were up an even steeper 2.6 percent on the month, although this followed an equally sharper 2.3 percent slump in the previous period. Autos were up 1.9 percent and textiles a huge 11.1 percent (April down 9.9 percent). The other products category saw a 1.1 percent gain but household goods were off 1.4 percent. With energy recording a 3.3 percent monthly decline, total spending on goods was up a more modest 0.4 percent from April and was 0.6 percent firmer on the year.

United Kingdom

First quarter final estimate of gross domestic product contracted an unrevised 0.3 percent on the quarter. Final fourth quarter 2011 GDP was revised to a decline of 0.4 percent from 0.3 percent. Annual growth was revised upward to minus 0.2 percent from 0.3 percent. Household spending was revised down and now shows a 0.1 percent decline on the quarter while government consumption was adjusted up to yield a 1.9 percent gain. Gross fixed capital formation was also 1.9 percent higher on the quarter. Exports of goods were up 0.3 percent but were more than offset by a 4.5 percent drop in services. Imports of goods were just 0.1 percent firmer while services declined 1.7 percent. The overall current account deficit widened out from Stg7.2 billion at the end of last year to Stg11.2 billion. Industrial production declined a quarterly 0.5 percent within which manufacturing was off 0.3 percent. Service sector output was up 0.2 percent but construction slumped 4.9 percent and alone subtracted fully 0.4 percentage points off the bottom line. The sharp divergence shown between the much more optimistic survey data and the official construction figures continues to be a major issue for the monetary authorities. If the ONS statistics are wrong, it could well mean that the economy actually grew last quarter.

Asia/Pacific

Japan

May retail sales were up a better than expected 3.6 percent after jumping 5.7 percent in April when compared with a year ago. This was the sixth increase in a row. Only general merchandise (down 0.9 percent) and machinery & equipment (down 24.1 percent) declined while all other categories were positive. Driving the growth were auto sales, which were up 47.3 percent and helped by government subsidies for fuel efficient cars and also by the low comparative figure a year ago when the industry was still suffering from the supply chain after effects of the March 11 disasters. Fuel was up 2.2 percent from a year ago while drug & toiletry stores were 3.2 percent higher. Sales at large scale retailers fell 0.9 percent on year, after adjustment for the change in the number of stores.

May consumer prices were down 0.3 percent but up 0.2 percent on the year. The all important core excluding fresh food slipped 0.2 percent on the month and 0.1 percent on the year. The annual decline was the first since January due to lower gasoline prices amid a slowdown in global demand and falling television prices. Core CPI for the Tokyo metropolitan area--an early indicator of price trends for the rest of Japan--fell 0.6 percent from June a year ago. The Bank of Japan in February strengthened its commitment to ending deflation by pledging to pursue "powerful" monetary easing and by setting an inflation target of 1 percent.

May unemployment rate dropped to 4.4 percent from 4.6 percent in April. Analysts expected that the unemployment rate would remain at 4.6 percent. The number of unemployed persons was 2.97 million, a decline of 170,000 from the previous year. The number of employed persons was down 300,000 to 62.97 million from a year ago.

May household spending was up 4.0 percent on the year. This was the fourth consecutive increase in spending in a row. Spending in only two of the main subcategories were down from a year ago. Food spending slipped 0.4 percent while clothing & footwear was down 2.5 percent. Spending on transportation & communication jumped 14.9 percent while housing was up 9.7 percent. Furniture & household utensils were 4.6 percent higher than a year ago. Culture & recreation spending was up 9.4 percent while education was 3.1 percent higher.

May industrial production dropped a slightly worse than expected 3.1 percent on the month, a sign that the recovery in Japan may be stalling. Analysts expected a 3.0 percent decline. Output was down 0.2 percent in April. On the year, output was up 3.4 percent. The decline in May was largely due to lower output in the automobile and chemical sectors. A survey of manufacturers released with the data showed that companies expect output to rise 2.7 percent in June from the previous month before increasing 2.4 percent in July. METI maintained its assessment of industrial production, saying it is recovering. The ministry has kept the same assessment since January.

Americas

Canada

April monthly GDP was up 0.3 percent and 2.0 percent on the year. The headline gain was largely built upon a solid 0.8 percent advance in the goods producing sector as services edged up just 0.1 percent. However, manufacturing output dropped 0.3 percent and construction was down 0.1 percent. With utilities also 0.2 percent worse off, production was lifted by likely erratically large increases in mining & oil & gas extraction (2.7 percent) and agriculture, forestry and fishing (1.5 percent). Services would have performed a lot worse but for a 1.2 percent spike in wholesale trade and a 0.7 percent increase in transportation & warehousing. Elsewhere any gains were only minimal and there were sizeable declines in retail trade (0.8 percent) and arts, entertainment & recreation (1.0 percent).

May industrial product prices were unchanged on the month and were up 0.7 percent on the year. Motor vehicles & other transport equipment (1.0 percent) and lumber & other wood products (1.7 percent) were among the strongest performers on the month with new vehicle prices (1.6 percent) rising for the first time in six months. The depreciation of the local currency had a not insignificant impact and without this the headline index would have fallen 0.4 percent from April. Elsewhere within the IPPI basket primary metals were off 1.3 percent on the month and petroleum & coal products were down 2.1 percent. Excluding the latter category, the IPPI would have risen 0.2 percent. Meantime, raw material and fuel costs were down 1.0 percent from April, led by a 2.1 percent slide in the cost of mineral fuels. Annual RMPI growth was boosted by base effects but at down 9.9 percent, remained strongly negative. Without mineral fuels, prices would have slipped just 0.1 percent on the month and fallen 3.9 percent on the year. The only other significant monthly decline was ferrous materials (1.1 percent) while the only gain of any real size was in wood (2.1 percent).

Bottom line

The week was dominated by expectations of what the EU summit might do at week’s end. While economic data were weak, investors tended to overlook them as they waited for the meeting’s results.

Both the European Central Bank and the Bank of England meet and are expected to make policy moves to boost their respective economies. The Reserve Bank of Australia is expected to hold after reducing interest rates by a total of 75 basis points to 3.5 percent over the last two meetings. Investors will pay close attention to the plethora of purchasing managers surveys that will be released during the week.

Looking Ahead: July 2 through July 6, 2012

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