Global Markets

Markets globally focused on the budget impasse in the U.S. that resulted in a partially closed U.S. government. The closure included most of the main producers of closely tracked economic data including the employment situation report. The fiscal year ended September 30 and with that so did funding for the organizations that compile the key pieces of economic data. While markets retreated, there was little sign of panic even after closure had logged its fourth day. Emerging markets advanced on the thought that, because of the shutdown, the Federal Reserve may not begin to taper.

Markets in Japan were not only affected by U.S. events but also by the confirmation that a higher consumption tax loomed with the beginning of the new fiscal year on April 1, 2014. And in Italy, a political crisis was narrowly averted when Prime Minister Enrico Letta won a confidence vote after Former Prime Minister Silvio Berlusconi unexpectedly reversed his position and supported Letta, after withdrawing his support over the weekend.

Three key central banks met this week and all maintained their monetary policy positions.

Reserve Bank of Australia

As widely expected, the Reserve Bank of Australia left its key interest rate unchanged at 2.5 percent where it has been since August. Once again the RBA said it would assess the outlook and adjust policy as needed to foster growth. It also noted that the Australian dollar, which had been on a welcome decline, had risen in value after the Fed raised the possibility of curtailing bond purchases. The RBA said that a lower value of the currency is needed to assist in the rebalancing of the economy between resources and manufacturing. The RBA noted signs of increased demand for finance by households, but said it was too soon to judge how persistent business sentiment will be.

In his post meeting statement, Governor Glenn Stevens noted that the easing in monetary policy since late 2011 has supported interest sensitive spending and asset values. However, the full effects of these decisions are still working their way through the economy and will for a while yet. The Australian dollar rose recently, but is still about 9 percent below its level at the start of the year. The economy has been growing a bit below trend over the past year and is expected to continue to grow below trend as the economy adjusts to lower levels of mining investment.

European Central Bank

As universally expected, the European Central Bank left its key refinance rate at 0.5 percent while the rates on the deposit and marginal lending facilities stayed at zero and 1.0 percent respectively. The meeting was held a day earlier than usual to accommodate the annual German Unity Day celebrations. The real economy data were sluggish since the previous meeting in September and, at just 1.1 percent, the flash estimate of inflation last month was well below the ECB’s 2 percent target. Moreover, both money supply and, in particular, credit growth remain weak. Consequently, there was some speculation that ECB President Mario Draghi might announce some new non-standard measures, possibly even another long-term repo operation (LTRO), at his post meeting press conference.

At his post meeting press conference, Draghi simply indicated that the ECB sees recent economic developments as being in line with official forecasts. Accordingly, he reiterated what has become the standard line on the Bank's monetary stance — interest rates will be kept at present or lower levels for an extended period of time. Mr. Draghi highlighted the weakness of the Eurozone’s economic recovery, which he called “weak, fragile and uneven,” and the ECB’s outlook for subdued inflation. Both of these elements, combined with the language used by Mr. Draghi on liquidity conditions, suggest that the ECB is ready to act.

Draghi's tone remained dovish, albeit not quite to the extent that some might have hoped in the wake of the recent strengthening of the euro. However he did indicate that some ECB Board governors were leaning in the direction of lower interest rates. This is in keeping with perceived downside risks to the economy. Financial markets will continue to be particularly sensitive to any unforeseen weakness in the upcoming data.

Bank of Japan

As expected, the Bank of Japan left its key interest rate range at zero to 0.1 percent. It also left its financial asset purchases unchanged. The goal is to increase the monetary base at an annual pace of about ¥60 to ¥70 trillion yen. The monetary policy board’s statement was almost identical to September’s which noted a moderate recovery and a general pick-up in exports. It was the first meeting since the government decided to raise the consumption tax as planned in April 2014.

The Monetary policy board maintained its view that the economy is recovering moderately. Exports have been picking up. It said that CAPEX has been picking up while industrial output has been increasing moderately. Regarding its aim to achieve 2 percent inflation in two years, it noted that core CPI excluding fresh food is in the range of 0.4 to 1.0 percent and inflation expectations seemed to be picking up. August core consumer price inflation rose to 0.8 percent from a year ago — the highest rate in five years — driven by rising costs for energy. The announcement made no mention of Prime Minister Shinzo Abe’s proposed increase in the sales tax.

So far, Abenomics has had some success. Sentiment has brightened in many sections of the economy as corporate profits — unlocked by a weaker yen — have pushed up share prices and triggered bonuses for employees. The BoJ’s quarterly Tankan survey, published earlier in the week, showed that the mood among large manufacturers rose to its best levels in six years, helped by a modest recovery in external demand. The data were deemed strong enough for Mr Abe to press ahead with plans to raise the country’s rate of consumption tax to put state finances on a firmer footing. The consumption tax will rise to 8 percent from 5 percent on April 2014 (the beginning of the new fiscal year).

Global Stock Market Recap

Europe and the UK

Most equities retreated last week as the markets struggled to find direction after the partial shutdown of the U.S. government. U.S. lawmakers remain at an impasse on the budget for the new fiscal year and increasing the nation's debt ceiling. Solid service sector data from both China and Europe were unable to override investor concerns over the U.S. situation. The exceptions were Spain’s IBEX and Italy’s MIB which were up 2.1 percent and 3.7 percent respectively.

An Italian Senate panel recommended the expulsion of former Prime Minister Silvio Berlusconi from the Senate on Friday due to his conviction for tax fraud. The recommendation must still be put before the entire Senate for a final vote. Berlusconi's influence over Italian politics diminished earlier in the week. He reversed his position and supported Prime Minister Enrico Letta in a confidence vote, after earlier threatening to topple the government. Berlusconi changed his position after losing support within his own party. The Italian market rallied after Prime Minister Enrico Letta was victorious in a confidence vote earlier in the week.

Private sector business activity across the Eurozone improved slightly more than previously estimated in September. The composite output index that measures performance of both manufacturing and service sectors rose to a 27-month high of 52.2 in September from 51.5 in August. Germany's service sector activity increased at the fastest pace in seven months in September while in France, the private sector expanded slightly more than initially estimated in September, ending an 18-month period of decline. The UK service sector continued to perform strongly in September and rounded off the best quarterly performance of the sector since the second quarter of 1997.

Asia Pacific

Equity indexes were split with emerging Asia rallying while more developed Asia Pacific retreated in response to the U.S. budget and debt ceiling impasse. For example, while the Nikkei lost 5 percent on the week, the Sensex gained 1.0 percent. Investors here skipped over the government closure and focused on what would happen if U.S. lawmakers fail to reach a compromise on raising the nation's debt limit before the October 17 deadline.

Japanese equities were hit with the Nikkei declining four of five days on worries over the U.S. fiscal problems. The dollar weakened for the fourth day against the yen amid the U.S. budget standoff and after data showed growth in the U.S. services sector cooled last month. Meanwhile, the Bank of Japan left its monetary policy unchanged for the seventh consecutive time, citing a continuing economic recovery, rising inflationary expectations and improving business sentiment.

Prime Minister Shinzo Abe announced plans to push ahead with a 3 percentage point increase in the sales levy to 8 percent beginning in April 2014, the first such increase since 1997. The aim is to reduce the country’s huge debt load. To counter its negative effects, the prime minister also unveiled a ¥5 trillion program including measures to boost capital investment by smaller companies, spending for the 2020 Olympics, payments to low income earners and tax incentives for home purchases.

Emerging markets rallied on the thought that the Federal Reserve will resist curtailing its stimulus in light of the fiscal stalemate. These countries have flourished and are fearful that any reduction by the Fed that would raise interest rates would hurt them. Even the suggestion of a possible taper had a negative impact thanks to currency and interest rate affects. The Taiwan Taiex and Indian Sensex were the best performing indexes for the week, rising 1.6 percent and 1.0 percent respectively.

Currencies

Asian currencies rose in the week, led by India’s rupee, on speculation the Federal Reserve will delay reducing stimulus amid a U.S. political impasse. The currencies advanced on the weaker dollar as investors here think that the chances of an October Fed taper are almost extinguished. India’s rupee climbed as did the Malaysian ringgit, the Philippine peso and Taiwan’s dollar. Better than forecast Indian current account data boosted optimism that the annual gap will narrow from a record.

China’s CFLP nonmanufacturing purchasing manager’s index climbed to a six month high in September after a separate gauge showed manufacturing expanded last month. The Taiwan dollar is very well leveraged to what is happening in China. The peso completed a weekly gain after strengthening the most in two weeks as the Philippines won a debt rating upgrade from Moody’s which completed the nation’s ascent to investment rank after Standard & Poor’s and Fitch Ratings boosted their assessments in May and March.

The U.S. dollar weakened last week as the government shutdown and impending debt ceiling deadline kept the currency near an eight month low despite signs of life on Friday. The U.S. shutdown delayed the closely watched nonfarm payrolls data, normally out on Friday and a key factor in Federal Reserve deliberations on when to scale back its stimulus.

The euro advanced last week much to the consternation of the European Central Bank. When ECB President Mario Draghi said the central bank stood ready to offer more long term loans to banks to keep money market rates from rising, some in the market saw it as a covert attempt to talk down the euro. With the euro near a two year high on a trade weighted basis, traders expect more such talk but not much impact on the currency. The euro remains supported by an improving economy, the ECB's 2012 promise to save it and the Fed’s decision to leave its monetary stimulus program unchanged. The ECB issued unprecedented forward guidance to curb a rise in money market rates in July, saying interest rates would stay low for a prolonged period. A stronger euro is unwelcome to the central bank because it can hurt exports, potentially threatening the euro zone's nascent recovery. A strong currency and higher money-market rates both effectively tighten financial conditions.

Selected currencies — weekly results

Indicator scoreboard

EMU

September flash harmonized index of consumer prices was up just 1.1 percent from a year ago and weaker than in any month since February 2010. A significant portion of the headline decline was attributable to the more erratic categories. Prices for food, alcohol & tobacco were 2.6 percent higher on the year after a 3.2 percent increase in August while energy prices were down 0.9 percentage points. However, there was also a slight moderation in the annual core rate which excludes all of the above. This eased to 1.0 percent. Elsewhere, inflation in services actually crept up to 1.5 percent from 1.4 percent although this was still 0.2 percentage points less than a year ago while in non-energy, manufacturing products slipped to 0.3 percent from 0.4 percent.

August seasonally adjusted joblessness was down 5,000 following a smaller revised 11,000 decline in July. The unemployment rate was 12.0 percent for a second month. Regionally most national rates showed little change on the month. However, in Italy the rate edged up another tick to a new record high of 12.2 percent and in Cyrus, its economy still spiraling down, the rate climbed a further 0.5 percentage points to 16.9 percent. More optimistically the Spanish rate held steady, albeit at 26.2 percent, and in Portugal it was down 0.1 percentage points to 16.5 percent.

September manufacturing PMI final reading was 51.1, unrevised from its flash estimate and 0.3 points short of its final August level. Output and new orders posted their third consecutive monthly increases as domestic conditions stabilized and overseas demand picked up. Nonetheless, backlogs unwound August's limited gain and the labour market worsened for the 20th successive month. Price pressures were more apparent with input costs increasing for the first time in eight months and output prices for the first time in 16 months. Among the larger states the final French PMI was 49.8 and so still just shy of the 50 expansion mark and the German index was 51.1, the right side of the growth threshold but hardly robust. Meantime, Italy posted a 0.5 point loss from August to 50.8 and Spain a 0.4 point decline to 50.7. Output rose in all countries except France and Greece.

Asia/Pacific

Japan

August retail sales rebounded and were up 1.1 percent from a year ago after slipping 0.3 percent in July. Among the major components, auto sales declined 3.5 percent after sinking 6.4 percent the month before. This was the fourth consecutive month of declining sales. Fuel sales however, were up for a fourth month, this time by 6.2 percent. Machinery sales edged up 0.4 percent after sinking 7.3 percent in July. Other components that increased in August were fabric, apparel & accessories (3.4 percent), food & beverage (1.6 percent) and general merchandise (0.4 percent).

August seasonally adjusted industrial production slid 0.7 percent from July. On the year, it was up 1.1 percent. General purpose production and business oriented machinery declined 2.4 percent, chemicals (excluding drugs) dropped 2.8 percent and transport equipment was down 0.9 percent. Large passenger cars dropped 5.3 percent on the month while metal oxide semiconductor ICs (Memory) dropped 13.2 percent. According to METI’s production survey forecast in manufacturing, production is expected to increase 5.2 percent in September and to increase 2.5 percent in October.

August household spending dropped 1.6 percent on the year after edging up 0.1 percent in July. Transportation & communication sank 7.2 percent while medical care retreated 3.6 percent. However furniture & household utensils jumped 7.7 percent on the year while clothing & footwear added 1.5 percent. Household spending continues to be weak. After declining in May and June, spending managed to barely increase in July only to drop again in August.

August unemployment rate jumped to 4.1 percent in August from 3.8 percent in July. Analysts were expecting the unemployment rate to remain at 3.8 percent. The rise was due in part to an increase in the number of workers who started looking for a job during the month, reflecting the recent improvement in the economy. However, employment was up for the eighth straight month when compared with a year ago. Employment rose 290,000 from a year ago, somewhat less than July’s increase of 340,000. In addition, the number of unemployed declined 60,000 on the year.

September Tankan improved from June’s readings. The large manufacturing index climbed to a reading of plus 12 from June’s plus 4. Small manufacturers’ index also improved to minus 9 from minus 14 the quarter before. The large non-manufacturing index was plus 14, up from plus 12 in June. Small non-manufacturing climbed to minus 1 from minus 4 in June. CAPEX for all was up 3.3 percent compared with 2.0 percent in June. Big firms see CAPEX up plus 5.1 percent while small firms see CAPEX down 0.7 percent. The improvement in business sentiment was widely expected in the wake of continued high corporate profits and signs of a recovery in overseas economies as well as solid domestic demand. The sentiment among major manufacturers came in stronger than expected, posting the third consecutive quarterly rise in September led by makers of production machinery (the key to a capex recovery), electric machinery, ceramics/stone/clay and oil refineries. Large non-manufacturers (construction, leasing and information services) are backed by solid consumer spending and increased fiscal spending.

Australia

August retail sales were up a slightly better than expected 0.4 percent on the month. Analysts expected a 0.3 percent increase. From a year ago, sales were up 2.3 percent. Department store sales jumped 6.4 percent, cafes/restaurants & takeaway food services gained 0.4 percent, clothing, footwear & personal accessory retailing rose 0.3 percent with food retailing up 0.1 percent. The increases were partially offset by declines in household goods retailing (down 0.6 percent) and other retailing (down 0.2 percent). Sales in Victoria were up 0.6 percent followed by New South Wales, up 0.4 percent. Western Australia gained 0.7 percent, Queensland was up 0.2 percent, the Northern Territory advanced 1.3 percent and Tasmania was 0.3 percent higher. These increases were partially offset by sales declines in South Australia (down 0.2 percent) and the Australian Capital Territory (down 0.8 percent).

August trade deficit was A$815 million, down from the revised A$1,374 billion deficit in July. Analysts had projected a much smaller deficit of A$425 million. Exports were up 3.1 percent on the month and were up 12.1 percent from a year ago. Imports were up 0.9 percent and 4.9 percent on the year. Exports of non-rural goods were up 3 percent and non-monetary gold exports jumped 33 percent. Metal ores and mineral exports were up 7 percent while other manufactures were up 10 percent. However, partly offsetting these increases was coal, coke & briquettes which dropped 4 percent. Rural goods were down A$12 million. Services credits slipped 1 percent. Consumption goods imports were up 5 percent, non–monetary gold was up 27 percent and capital goods were up A$14 million. Within consumption goods, non–industrial transport equipment was up 5 percent, food & beverages mainly for consumption were up 9 percent and textiles, clothing & footwear were 5 percent higher. Within capital goods, civil aircraft & other items were up 16 percent, industrial transport equipment was up 4 percent and other capital goods were up 2 percent as was ADP equipment. Partly offsetting these increases was the machinery & industrial transport equipment component, down 6 percent.

Americas

Canada

July monthly gross domestic product rebounded from its strike and flood distorted collapse in June by 0.6 percent. Annual growth accelerated from 1.1 percent to 1.4 percent. The recovery was led by those areas that suffered most last time. In particular, within a 1.2 percent monthly increase in overall industrial production, construction expanded 1.9 percent, reversing most of its revised 2.1 percent plunge at the end of last quarter. Manufacturing was up 1.1 percent after a 1.0 percent drop last time and mining, quarrying & oil & gas extraction advanced 1.4 percent. On the downside, agriculture, forestry, fishing & hunting contracted 0.3 percent and utilities were down 0.4 percent. The service sector output retrieved all of June's 0.3 percent drop, largely on the back of a 1.6 percent monthly increase in wholesale trade, supported by smaller gains in management of companies & enterprises (0.9 percent) and finance & insurance (0.7 percent). Arts, entertainment & recreation (2.5 percent) also had a good month while retail trade was up 0.6 percent. The only declines were posted by transportation & warehousing (0.1 percent), educational services (0.2 percent) and public administration (0.1 percent).

Bottom line

Equities retreated last week as the U.S. budget impasse continued to dominate the headlines. The Reserve Bank of Australia, European Central Bank and the Bank of Japan left their key monetary policies unchanged.

Absent a settlement over the weekend, markets will continue to monitor events in Washington. At the same time, they will be missing key economic data that helps investors gauge their strategies. But unlike in the U.S., economic data will continue to be released on schedule elsewhere. Data releases center on industrial output and international trade. Australia and Canada release key labour market data. The Bank of England meets — no change in policy is anticipated.

Looking Ahead: October 7 through October 11, 2013

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