Global Markets

In the last week of August, investors awaited a speech from Fed Chairman Ben Bernanke at the annual Kansas City Fed symposium in Jackson Hole, Wyoming. Last week it was the European Central Bank’s turn to captivate investor focus and expectations. While awaiting the ECB announcement, markets tried to read the tea leaves contained in the plethora of global purchasing managers reports to see if they supported more easing from central banks. Most equity indexes advanced on the week, thanks to gains on Thursday and Friday.

A central bank roundup

The Reserve Bank of Australia and the Banks of Canada and England met and announced that their respective policies were on hold. The RBA left its key rate at 3.5 percent, the BoC maintained its 1.0 percent rate and the BoE kept its 0.5 percent interest rate and its asset purchase plan ceiling at £375 billion.

European Central Bank

The ECB lived up to expectations and announced a bond purchase program. At the same time, the ECB governing council left its key refinance rate at a record low of 0.75 percent while the rates on the deposit and marginal lending facilities remain at zero and 1.50 percent respectively. Analysts had been divided over whether the ECB would reduce rates. Leaks the day before the meeting had suggested that the ECB President would reveal proposals under which the ECB would buy unlimited quantities of short term bonds of those member countries where borrowing costs were seen to be significantly out of line with economic fundamentals. The market got much of what it expected.

In particular, the ECB has signaled its willingness to intervene as aggressively as needed in the secondary sovereign bond markets for instruments with yields of between one and three years. Seniority in bond purchases will also be wavered in order to bolster the potential interest of private sector bond investors. There was also a further relaxation of collateral rules on central bank loans. However, crucially any such outright monetary transactions (OMTs) will be subject to the conditions laid down by the relevant EFSF/ESM adjustment program, ideally with input from the IMF. Moreover, any addition to liquidity will be sterilized. This means that the use of OMTs will not constitute quantitative easing. The decision was not unanimous — there was one lone dissenter, Germany. The Bundesbank in particular has expressed real concerns about the ECB overstepping its mandate. This may not be an insurmountable problem but with the German Constitutional Court due to rule on the legality of the European Stability Mechanism on September 12^th, investors are likely to be nervous near term.

Reserve Bank of Australia

As expected, the Reserve Bank of Australia left its policy interest rate at 3.5 percent where it has been since June. The RBA remains firmly in a wait and see mode after back to back rate cuts in May (50 basis points) and June (25 basis points). The RBA's Statement on Monetary Policy pictured a cautious view with relatively minor changes to its near term domestic growth forecasts even though the first half was stronger than expected. The RBA also had lowered its 2013 to 2014 forecasts, reflecting an expectation of a turning point in the mining boom and more wariness about the potential impact of the high Australian dollar.

Bank of England

The Bank of England made no change to its monetary stance. The decision, which was in line with market expectations, means that Bank Rate remains at 0.5 percent and the asset purchase ceiling at £375 billion. The current £50 billion round of quantitative easing is not due for completion until November and the Bank's new Funding for Lending initiative is still in its infancy. Nonetheless, with economic signals for the third quarter very mixed and inflation, notwithstanding the July setback, seemingly on a downward course, many anticipate the announcement of a new QE program when the monetary policy committee meets in November.

Bank of Canada

As widely expected the Bank of Canada announced no changes to official interest rates at the conclusion of its policy setting meeting. The target for the overnight rate remains at 1.0 percent with the deposit rate at 0.75 percent and Bank Rate at 1.25 percent. The decision follows a suite of generally soft economic data including surprising declines in July employment (the strong August data were not available prior to the meeting) and inflation along with drops in both retail and manufacturing sales in June. However, second quarter GDP met the BoC’s July forecast of an annualized gain of 1.8 percent. The Bank again warned that some modest withdrawal of the present considerable stimulus may be appropriate in the future. The bottom line is that any bias to policy is still in favor of a tightening even if financial markets seem more enthusiastic about a shift in the opposite direction.

PMIs

August purchasing managers’ indexes painted a picture of slowing economic growth globally with few exceptions. The data from China showed that both PMIs — the CFLP and Markit — were in contractionary territory on weak demand and corporate raw materials destocking. But despite the bad reading, the CFLP still claimed that economic growth is bottoming out, noting improvement in input prices as well as inventories of finished goods.

The manufacturing downturns in Asia and the Eurozone deepened, adding to pressure on central banks to do more to fight the slowdown. New orders dwindled in the Eurozone, suggesting the outlook remains poor, while activity in China's manufacturing sector — the engine for much of Asia's economy — contracted at the fastest pace since the depth of the global financial crisis. However, India and the U.S. continued to be above the breakeven level of 50.

In the Eurozone, the manufacturing PMIs remained below 50 for a 13^th month, though the decrease was less steep than in July. The August index was 45.1, compared with 44 in July. The contraction in Europe was borne out by second quarter GDP — it declined 0.2 percent on the quarter while the number of unemployed climbed to a record of more than 18 million. Markit's data showed manufacturing activity dropped in France, Spain and Greece — albeit at a lessened pace. The decline steepened in Italy. Only Ireland showed month to month growth in its factory sector.

Global Stock Market Recap

Europe and the UK

After a volatile week of trading, equities rallied Thursday and again on Friday. The markets extended gains stemming from Thursday's European Central Bank announcement regarding the implementation of a bond purchase plan. A large infrastructure project announcement from China also spurred the markets higher Friday. Advances were muted Friday afternoon after investors were confronted by the disappointing U.S. employment report. August employment was up much less than expected although the report also showed an unexpected drop in the unemployment rate thanks to a reduction in the labour force. The FTSE and SMI — non-Eurozone members — were up 1.5 percent and 2.3 percent respectively. Eurozone members DAX and CAC jumped 3.5 percent and 3.1 percent. Stocks in beleaguered Spain and Italy soared. The IBEX was up 6.2 percent and the MIB, 6.7 percent.

China has added stimulus worth more than a 1 trillion yuan as the National Development and Reform Commission (NDRC) approved a slew of infrastructure projects to help the economy counter the global gloom, which has increasingly diluted export gains. China has approved plans to build 2,018 kilometers of roads and to build subways in 18 Chinese cities.

Asia Pacific

Equities rallied Friday, boosted by strong advances in the U.S. and European markets overnight after the European Central Bank unveiled a bond buying program to ease Europe's debt crisis. Chinese shares were at the forefront following reports Beijing is accelerating infrastructure spending to bolster growth. On the week, most indexes advanced, the exceptions being the STI and the KLCI. Gains ranged from 0.1 percent (PSEi) to 3.9 percent (Shanghai Composite). Most weekly advances were thanks to Friday’s rally.

Stocks in Asia soared on Friday after European Central Bank President Mario Draghi Thursday presented a plan to tackle Europe's continuing debt crisis, while Chinese markets surged on news of greater infrastructure spending. The Shanghai Composite was not only responding to the ECB's bond buying plan, but also to domestic news of massive investment in the infrastructure sector. Over the past two days, it was announced that China has approved 25 subway and 13 highway projects since April.

In rare credit rating upgrade news, Fitch Ratings upgraded South Korea's long term foreign currency issuer default rating to “AA-“ from 'A+', reflecting the country's continued economic and financial stability in the volatile global environment. The agency also maintained its 'stable' outlook on the economy, citing the country's strong macroeconomic policy framework, including sustained fiscal discipline and strong structural fundamentals.

Currencies

The euro soared in the aftermath of the European Central Bank's bond buying plans Thursday and continued to please the markets on Friday as well. It also hit a two month peak against the Japanese yen and a one month peak against the Swiss franc. Yields on Spanish and Italian 10-year bonds continued to decline, easing implied borrowing costs.

On Friday, the euro climbed to a more than three month high against the dollar at $1.28. It has even staged a rare blast higher against the Swiss franc, hitting an eight month high. The shift against the franc is particularly notable — the euro has been glued to the 1.20-franc area for a year. Almost exactly a year ago, the Swiss National Bank set that point as the lowest it would tolerate for the euro, but selling pressure in the common currency has held it close to that point ever since, with the SNB buying euros consistently to hold it up. Now the euro is rising against the franc without any help from the SNB, offering an approval from the currency markets for the ECB's plans. The Swiss franc declined to its weakest level since January against the euro.

The U.S. dollar weakened after the disappointing employment report. U.S. employers added fewer jobs in August than forecast, boosting speculation the Federal Reserve will increase its monetary stimulus when it meets this week. The dollar declined as the extra liquidity from a third round of asset purchases by the Federal Reserve may debase the currency. Canada’s dollar rallied to its strongest in a year against the U.S. currency after the nation added more jobs than projected, fueling expectations of a central bank interest rate increase.

Selected currencies — weekly results

Indicator scoreboard

EMU

August services PMI index performed even worse than originally thought as the sector's flash PMI was revised down 0.3 points to 47.2 and 0.7 points short of its final July reading. New business was down again at a pace similar to that seen in July. Backlogs declined once more and headcount remained on a downward path despite a modest gain in Germany. However, business confidence actually was up for the first time in five months, even if it did remain below its long run average. While input cost inflation reached a four-month high, service sector charges declined for the ninth month in a row, reflecting the highly competitive market conditions caused by weak demand. The composite output index covering both the manufacturing and service sectors was revised down from its flash estimate of 46.6 to a reading of 46.3. This compares with a final July reading of 46.5 and is the seventh successive reading below the key 50 mark.

July producer prices excluding construction were up 0.4 percent from June, their steepest monthly increase since March. Annual PPI growth was unchanged at 1.8 percent. The jump was essentially attributable to a 1.6 percent monthly increase in energy costs without which the PPI would have been just 0.1 percent firmer than at the end of the second quarter and 0.9 percent higher than July 2011, matching the annual June outcome. Other categories continued to paint a very restrained picture. Consumer goods posted a 0.2 percent monthly gain but capital goods costs were flat and intermediates slipped 0.1 percent. Regionally, the national PPI was up 0.4 percent from June in Italy and 0.8 percent higher in Spain, but prices in Germany were only flat. Among the smaller countries, Greece registered a 2.1 percent gain, the first increase of any size since March, and Portugal was 0.5 percent stronger. However, there were monthly declines in Belgium (0.4 percent), Ireland (0.8 percent) and Austria (0.2 percent) as well as in a number of other states.

July retail sales were down 0.2 percent following an unrevised 0.1 percent gain in June. On the year, sales were down 1.7 percent after a steeper revised drop of 0.9 percent last time. Excluding auto fuel, July saw a hefty 0.9 percent monthly decline in the food, drink & tobacco sector but non-food volumes were up 0.9 percent, more than reversing their 0.4 percent slide in June. The headline data would have looked significantly stronger but for a 0.9 percent monthly slide in Germany and a 1.9 percent slump in Spain, the fourth decline in the last five months and the sharpest across the entire region. France saw demand 0.9 percent higher on the month and was the best performer ahead of Belgium (0.7 percent).

Second quarter GDP contracted an unrevised 0.2 percent. From a year ago, GDP was revised to a decline of 0.5 percent from the flash estimate of a 0.4 percent slide. The first look at the GDP expenditure components made predictably gloomy reading. In particular, consumer spending posted a third consecutive quarterly drop, declining 0.2 percent for the second straight quarter to stand 0.7 percent lower on the year. With a decline of 0.8 percent, gross fixed capital formation fared even worse although at least the pace of decline eased somewhat from the 1.3 percent rate seen in the first quarter. Government consumption remained in positive territory but only just, recording a minimal 0.1 percent advance after a 0.2 percent increase last time. Inventories continued to be unwound and subtracted a further 0.2 percentage points from quarterly growth. Exports were up 1.3 percent outpacing a 0.9 percent increase in imports to add a net 0.2 percentage points to the bottom line. Regionally, growth was led by a 0.3 percent quarterly advance in Germany which contrasted sharply with a 0.4 percent contraction in Spain and a 0.7 percent decline in Italy. The French economy stagnated. Among the smaller countries Portugal saw a 1.2 percent drop in total output while Finland was down 1.1 percent, Cyprus 0.8 percent, Belgium 0.6 percent and Slovenia 1.0 percent. The strongest performer was Slovakia, up 0.7 percent.

Germany

July manufacturing orders rebounded by 0.5 percent on the month in July. The increase, which failed to reverse fully a slightly shallower revised 1.6 percent drop in June, left workday adjusted orders 4.5 percent below their year ago level. In July, the headline increase was attributable to basics and capital goods, both of which also posted 0.5 percent monthly gains. Consumer and durables by contrast were off 1.2 percent. Growth was largely concentrated in the domestic market which saw a 1.0 percent monthly gain although this followed a 1.8 percent decline last time. Foreign orders edged up 0.1 percent from June and so made little impression on their 1.5 percent slide the month before. The performance here would have been rather more robust but for a 0.6 percent drop in orders from the rest of the Eurozone as non-EMU demand was up 0.5 percent.

July industrial production rebounded 1.3 percent but was down 1.4 percent on the year. July's bounce was driven by a 3.8 percent monthly surge in capital goods production but there was a very respectable increase too in durable consumer goods (2.2 percent) and a smaller gain in intermediates (0.2 percent). However, overall consumer goods output (down 0.4 percent) was dragged lower by a 0.9 percent drop in nondurables. Among the more volatile sectors, construction was up 1.9 percent but energy was off 3.7 percent. Manufacturing output was 1.7 percent higher on the month, more than reversing June's 0.8 percent drop.

July seasonally adjusted trade surplus was €16.1 billion, just €0.2 billion short of June's upwardly revised €16.3 billion. The unadjusted surplus was €16.9 billion, down from €17.9 billion last time. The minor deterioration in the adjusted data reflected strength in imports which, with a monthly gain of 0.9 percent, grew almost twice as quickly as exports (0.5 percent). The July surplus was nonetheless still 0.8 percent above the second quarter average, boding cautiously well for a positive contribution from net foreign trade to real GDP growth. Exports were up 9.2 percent on the year with sales to the rest of the Eurozone just 3.2 percent firmer, well short of the 15.9 percent advance posted by the non-EU bloc. Imports were only 1.9 percent higher than in July 2011 despite a 6.7 percent increase in purchases from other EMU states.

France

Second quarter joblessness in metropolitan France was up by 52,000, enough to nudge the unemployment rate to 9.7 percent from 9.6 percent. Although slightly lower than expected, the rate now stands at its highest level since 1999. The latest increase followed a 58,000 gain in the first three months of the year and leaves the number of people out of work at 178,000 or 6.8 percent above its level a year ago. Including overseas territories, the unemployment rate climbed a steeper 0.2 percentage points to 10.2 percent. The rate here also rose 0.2 percentage points in the first quarter. Monthly claimant count data showed the labour market weakening again at the start of the current quarter and both business and consumer surveys suggest minimal scope for any real improvement over coming months.

July seasonally adjusted merchandise trade gap narrowed from a marginally larger revised €6.1 billion in June to €4.3 billion in July, the smallest shortfall since October 2010. However, the marked improvement was largely attributable to a second successive decline in imports, this time by 3.5 percent on the month. A sharp fall in energy purchases together with weakness in transport equipment were the main driving forces here. By contrast, a strong showing by aeronautics saw exports rise 0.8 percent but it failed to offset a 2.4 percent drop last time.

United Kingdom

July industrial production rebounded from a holiday distorted slump in June and jumped 2.9 percent on the month, the steepest since February 1987. At the same time, the key manufacturing sector saw output soared an even stronger 3.2 percent, its best performance since July 2002. However, on the year, industrial output declined 0.8 percent and manufacturing was down 0.5 percent. The pick-up in manufacturing reflected gains in eleven sub-sectors and slides in just two. The largest contributors were basic metals and metal products, where output was up 6.2 percent from June and transport equipment, which registered a 6.3 percent advance. Total production benefitted from a 4.9 percent surge in mining and quarrying but was also weighed down by a 3.7 percent drop in coke and refined petrol.

August manufacturers' input and output prices both were up in August. Input prices jumped 2.0 percent on the month for an annual increase of 1.4 percent while the output prices posted a robust 0.5 percent gain, boosting its 12-month rate by 0.4 percentage points to 2.2 percent. Output charges were dominated by a 3.2 percent monthly spike in petrol prices that alone added almost 0.4 percentage points to the headline change. The only other increase of note was chemicals & pharmaceuticals (0.9 percent). Elsewhere most categories registered just small gains and metal, machinery & equipment together with paper & printing saw 0.1 percent declines. Core output prices edged up 0.1 percent and were 1.2 percent higher on the year. The surge in raw material and fuel costs was largely attributable to a 9.3 percent monthly leap in crude oil which added fully 2.4 percentage points to the change in the headline index. The next largest increase was in imported food at 0.5 percent. Five sub-sectors returned monthly declines led by home food materials and imported metals (both down 1.9 percent).

Asia/Pacific

Australia

July retail sales dropped 0.8 percent after jumping 1.2 percent in June. On the year, sales were up 3.5 percent. The largest contributor to the decline was department stores (down 10.2 percent), followed by other retailing (down 2.8 percent) and clothing, footwear & personal accessory retailing (down 0.9 percent). These declines were partially offset by increases in household goods retailing (2.4 percent), cafes, restaurants & takeaway food services (0.3 percent) and food retailing (0.1 percent). The large department store drop follows a strong increase in the previous month. However, department stores remain the weakest performing industry over the longer term (down 0.5 percent in trend terms). The strongest performing industry over the longer term is cafes, restaurants & takeaway food services (up 0.8 percent in trend terms). Sales were down in all states.

Second quarter gross domestic product was up 0.6 percent from the previous quarter after advancing an upwardly revised 1.4 percent (from 1.3 percent) in the first quarter. Growth was driven by a 0.6 percent contribution from final consumption expenditures and a 0.3 percent contribution from net exports. However, these increases were partially offset by a negative contribution of 0.3 percent from changes in inventories and a minus 0.1 percent contribution from dwelling investment. Non-farm GDP increased 0.6 percent on the quarter. On the expenditure side, final consumption expenditures were up 0.8 percent on the quarter and 3.8 percent from the same quarter a year ago. The main contributors were household final consumption expenditures (0.3 percentage points), general government final consumption expenditures (0.2 percentage points) and net exports (0.3 percentage points). Gross fixed capital formation was 1.0 percent higher and jumped 11.0 percent on the year.

August employment declined 8,800 to 11,498,100. In the eight months through August, employment has increased by 83,300 jobs. The unemployment rate decreased 0.1 percentage point to 5.1 percent from 5.2 percent in July. The decline in employment was driven by part time employment, down 9,300 people to 3,426,700. Male part-time employment was down 8,400 people. Full time employment increased by 600 people to 8,071,400. The number of people unemployed decreased by 10,600 people to 622,600 in August. The number of persons looking for full time work increased 12,800 to 469,400 and the number of persons looking for part time work decreased 23,400 to 153,200. The seasonally adjusted underemployment rate was 7.2 percent. Combined with the unemployment rate of 5.1 percent, the latest estimate of total seasonally adjusted labour force underutilization was 12.4 percent in August. The labour force participation rate declined 0.2 percentage points to 65.0 percent from July.

July balance on goods and services was a deficit of A$556 million. Exports of goods and services dropped 2.7 percent with the strength of the Australian dollar a factor. Mixed prices for iron ore and base metals along with coal and fuel were also factors. Non-monetary gold plunged 25.0 percent, non-rural goods slid 1.0 percent and rural goods were down 3.0 percent. Net exports of goods under merchanting were 23 percent higher. Services credits were up A$12 million. Imports slid 1.5 percent. Capital goods dropped 8.0 percent while intermediate & other merchandise goods were up 1.0 percent, consumption goods were up A$13 million and non-monetary gold advanced A$2 million. Services declined A$20 million. On the year, exports were down 1.4 percent while imports were up 6.0 percent.

Americas

Canada

August employment rebounded with a gain of 34,300 increase. However, the unemployment rate remained at 7.3 percent. The participation rate edged higher to 66.6 percent from 66.5 in July. Employment growth was concentrated in part time positions which climbed a solid 46,700. Full time jobs disappointingly were down 12,500 but private sector payrolls advanced 29,900, well ahead of a 17,400 gain in the public sector. Self-employment was down 13,000. The goods producing sector had a poor month, shedding a net 36,400 positions. Within this, manufacturing declined 2,700 and construction was 44,000 lower. A partial offset was provided by natural resources (up 8,800) while other areas saw no significant change. Services enjoyed buoyant growth with employment climbing 70,600. Gains were relatively widespread including notable increases in transportation & warehousing (37,100), professional, scientific & technical services (20,000), business, building & other support services (19,000) and trade (13,100). The steepest loss was in information, culture & recreation (17,200) but there were declines too in health care & social assistance (7,200) and finance, insurance, real estate & leasing (3,400).

Bottom line

After a week of trepidation, the European Central Bank announced a bond buying plan that pleased market participants. Earlier in the week, the Reserve Bank of Australia and the Banks of Canada and England kept their monetary policies unchanged. The latest PMI data virtually uniformly disappointed as they showed weakening global growth, especially in China and the Eurozone.

Now that the ECB has announced its plans, next up on investors’ radar is the two day FOMC meeting followed by a press conference by Fed Chairman Ben Bernanke. Given the weakness in the U.S. August employment report, more traders are expecting some form of additional quantitative easing from the Fed.

Looking Ahead: September 10 through September 14, 2012

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