Global Markets

Global markets were buffeted by renewed credit worries and lackluster U.S. economic data. As usual, financial markets focused on the week’s main event — the U.S. employment situation report which showed that employment declined for the second month — but so did the unemployment rate. But equities markets were already down for the week after two major bond funds revealed troubles with mortgage-backed investments and as a result, failed to make margin calls, which are payments to guarantee much larger debt or investments.

While most central banks meeting last week left their policy interest rates unchanged, the Reserve Bank of Australia was the only one to increase its rate (to 7.25 percent) while the Bank of Canada was the only one to lower rates — and they did so by 50 basis points to 3.5 percent. But more tightening could be on the horizon in China after People’s Bank of China governor Zhou Xiaochuan warned of the possibility of a further increase in interest rates. China raised interest rates six times in 2007 in a bid to curb inflation. The Federal Reserve issued its pre-meeting Beige Book which is prepared by the regional banks in turn. Prepared for the upcoming March 18 FOMC meeting, it found that the economy has clearly slowed. Meanwhile the Fed has been on speaker overdrive — there were about 12 speeches from Fed officials last week as they try to explain their monetary policy to anyone who would listen.

As equities struggled, investors sent the dollar to record or long-time lows against other major currencies and sought refuge in safe havens such as government bonds and gold. Base metals also enjoyed a rally, with copper on the London Metal Exchange reaching a record peak. The dollar fell to a record low against the euro and was also at unseen levels against the Swiss franc while the pound sterling moved back through the $2 level. The impact of record high oil, base metals and agricultural commodity prices on inflation also helped spur on gold which is being increasingly held by funds as a hedge against rising inflation.

Global Stock Market Recap

Europe and the UK

The FTSE, CAC and DAX were up one day out of five last week. The brief rally saw stocks up for the first day in six led by banks, phone companies and automakers, on speculation they had fallen too much compared with earnings. Stocks in Europe and the UK virtually ignored the central bank announcements — the results were what had been expected. However, the ECB’s post-meeting press conference disappointed many because ECB president Claude Trichet did not say anything directly about the strength of the euro. The week’s results make dismal reading. All three indexes were down over 3 percent for the week. For 2008, the FTSE is down 11.7 percent while the CAC and DAX are down 17.7 percent and 19.3 percent respectively. 

ECB reiterates its commitment to fighting inflation

As universally expected, the European Central Bank governing council left its key interest rate at 4 percent for the 10th month. ECB President Jean Claude Trichet remains unswervingly committed to fighting inflation, in spite of expectations that eurozone growth will slow along with the rest of the global economy. This presents a dilemma for the bank. The flash estimate of the harmonized index of consumer prices showed that the annual rate of eurozone inflation remained at 3.2 percent in February — the highest level since the data series started in 1997 and the sixth successive month that inflation has come in above the ECB’s 2 percent price stability target. A major concern is the risk of second-round inflation effects — particularly given that the eurozone unemployment rate edged down to a record low of 7.1 percent in January. And both economic sentiment and consumer confidence have dipped to multi-year lows.

New ECB staff economic forecasts sketch an increasingly uncomfortable scenario of persistently high prices and slowing growth in the eurozone. The new staff projections foresee inflation well above the bank's target of just under 2 percent this year and next. Because the ECB aims to keep inflation just below 2 percent in the medium term, the 2009 projection of an above-target rate is likely to keep many policy makers on alert.

Bank of England waits

The Bank of England kept its key interest rate at 5.25 percent on Thursday. The Bank previously had lowered its interest rate in both December 2007 and February 2008. The Bank still has the highest interest rate among G7 countries. Although initial fourth quarter growth estimates were still on the robust side, recent monthly data have indicated that the economy may be slowing faster than anticipated as the combination of past rate increases take hold and the global credit crunch impacts key sectors of the economy such as housing. The CPI has been above the Bank’s inflation target of 2 percent. (Prior to the meeting, it was noted by some analysts that the BoE had never cut rates in the month of March since it became independent about 10 years ago.) Six of the nine MPC members had spoken in public recently and all cited the upside of inflation risks. The MPC did not issue a statement at the conclusion of the meeting. Rather analysts will have to wait two weeks until March 19 when the minutes will be released.

Asia/Pacific

Asian/Pacific equities followed North American stocks downward in Friday trading after U.S. stocks tumbled Thursday on renewed credit market concerns and data signaled that the U.S. housing market continued to deteriorate. In Japan, exporters’ stocks were particularly hard hit given the strength of the yen. With the end of the Japanese fiscal year looming on March 31, the relatively higher value of the yen will have a negative impact on repatriated earnings. Of the many Asian/Pacific indexes covered here, only the Thai SET managed to register a gain for the week. And only the Thai SET is about even for this year (up 0.3 percent).

Japanese stocks are increasingly moving in lockstep with stocks of other Asian nations as funds tied to the entire region grow in popularity. For example, while Japanese markets halted for lunch Thursday, advances by indexes like Hong Kong's Hang Seng and other Asian markets gained momentum. This pushed the Nikkei higher once trading resumed in the afternoon. The fading importance of Japanese markets has given rise to such investing. The World Federation of Exchanges says that Japanese stocks made up 33 percent of global market capitalization in 1990, with the rest of Asia contributing a mere 5 percent. As of January 31, Japanese stocks comprised 8 percent of global market capitalization with the rest of Asia accounting for 19 percent.

Losses for the week ranged from 1.1 percent for the Shanghai Composite to the Sensex 30, which tumbled 9.1 percent. The Hang Seng lost 7.5 percent while the Nikkei was down 6.0 percent.

RBA lifts interest rates yet again

As expected, the Reserve Bank of Australia once again raised its key interest rate by 25 basis points to 7.25 percent to combat inflation. This is the first back-to-back increase in rates since 2003. An index of consumer prices compiled by TD Securities Ltd. and the Melbourne Institute in Sydney show that prices surged 4 percent in February from a year earlier. The RBA has an inflation target range of 2 to 3 percent. Contributing to the higher prices are soaring costs for property rents, food and financial services. Wages are also rising as demand for commodities from China has fueled a mining boom and driven unemployment to a three decade low.

Last meeting for governor Fukui

The Bank of Japan maintained its current policy interest rate of 0.5 percent at their two-day meeting. The rate remains the lowest among the major economies. The Bank kept interest rates on hold amid concern that slowing global economic growth will cut demand for exports and costlier energy and materials will curtail domestic spending.

Financial markets remain volatile and soaring commodity costs are squeezing profits and forcing employers to keep wages low. A major source of growth — capital spending — has weakened substantially. For example, recent data indicate that machinery orders, an indicator of business spending in the next three to six months, are declining. Business spending and exports accounted for almost all of the growth as sales to Asia made up for faltering U.S. demand. And capital spending sank 7.7 percent in the fourth quarter, the most in five years.

The finance ministry also released figures indicating that Japanese companies’ recurring profits declined on the year for the second consecutive quarter because of higher raw material and fuel costs. As uncertainties over the Japanese economic outlook are intensifying, there are concerns that corporate earnings will worsen because of the recent sharp appreciation of the yen against the dollar.

This meeting was the last for governor Tashihiko Fukui and two BoJ deputy governors. Their terms end on March 19. However, overshadowing the results of this meeting (which were expected) is the ongoing political tug of war on the naming of Fukui’s successor. After the conclusion of the BoJ meeting, Prime Minister Yasuo Fukuda nominated Deputy Governor Toshiro Muto as Fukui’s successor. However, the opposition DPJ party is opposed to Fukuda’s choice raising fears that the BoJ will not have a governor after Fukui's term expires on March 19. On Wednesday, Fukuda ruled out the possibility of a policy vacuum which would be particularly embarrassing for Japan in a year in which it is hosting the G7 and G8 meetings.

Canada

As expected, the Bank of Canada once again lowered its key interest rate by 50 basis points to 3.5 percent. The Bank previously reduced rates both at their December 2007 and January 2008 meetings. The Bank lowered rates amid signs that the U.S., the destination for about 80 percent of Canada’s exports, could slide into recession. And the week's GDP numbers for the fourth quarter show that the economy grew at its slowest pace since 2003 and contracted in December thanks to declining exports.

The Bank of Canada has an inflation target range of 1 percent to 3 percent but focuses on the 2 percent midpoint. While the overall CPI was up 2.2 percent on the year in January, the core or ‘operational’ CPI that is used by the Bank and excludes eight volatile items was up 1.4 percent. Manufacturing industries were particularly hard hit by the soaring Canadian currency which has cut severely into exports. At the same time the currency has made imports cheaper while shopping trips to the U.S. have replaced domestic purchases. GDP data for the fourth quarter which were released on Monday showed that growth slowed dramatically in the fourth quarter. And Friday’s employment report surprised with a larger than anticipated employment gain.

Currencies

The euro hit yet another new high against the U.S. dollar after the ECB kept its key interest rate at 4.0 percent, which is one full percentage point above the 3.0 percent fed fund target rate. But the euro’s rise has complicated the ECB’s task and threatens to increase political pressure for lower eurozone borrowing costs. The euro, which has climbed about 5 percent against the dollar in 2008, hit another record after ECB President Jean Claude Trichet refused to voice direct concern about the currency’s rise. Rather he repeated comments that U.S. authorities still believe a strong dollar is in the best interest of the country. A stronger euro could help contain eurozone inflation pressures by making imports cheaper and offsetting commodity-price increases.

The dollar hit a fresh three-year low against the yen Friday in pre-employment report trading in Japan. Traders there think that the combination of further credit tightening and a weak U.S. economic outlook will keep the dollar within the ¥102 to ¥103 range. The yen has as yet been little affected by the struggle over the next BoJ governor but rather think the focus will remain on the health of the U.S. economy.

The pound sterling climbed above the $2 mark for the first time since December after the Bank of England kept its policy rate at 5.25 percent. That move came in spite of UK data that indicate deterioration in the housing market. Dollar sentiment was also hit by data showing that although claims for initial jobless benefits fell last week, the number of people continuing to receive unemployment benefits rose.

Indicator scoreboard

EMU

February flash harmonized index of consumer prices was up 3.2 percent when compared with a year ago. Annual inflation has exceeded the ECB’s 2 percent target every month since September and is currently 1.4 percentage points above its pace a year ago. As with all flash releases, no details were available.

Preliminary fourth quarter gross domestic product was up 0.4 percent and 2.2 percent when compared with last year. All major components were down or grew at a slower pace than the previous quarter. Private consumption edged down 0.1 percent on the quarter but was up 1.1 percent on the year. Gross fixed capital formation was up 0.8 percent on the quarter but weaker than third quarter growth of 1.2 percent. Government consumption also declined 0.1 percent in the fourth quarter after expanding by 0.7 percent in the third. The quarterly deceleration was particularly marked in France (0.3 percent from 0.8 percent) and Germany (0.3 percent from 0.7 percent). Spain bucked the trend (0.8 percent from 0.7 percent) but looks to have slowed sharply at the start of this year while Italy has yet to provide its fourth quarter accounts.

January producer price index excluding construction jumped 0.8 percent on the month and was up 4.9 percent when compared with last year — a 17-month high. The major boost came from energy (1.6 percent) — but even excluding this sector, prices jumped 0.6 percent which nudged the annual core rate a tick higher to 3.3 percent. Gains in January were broad-based with the surge in energy compounded by large rises in intermediates (0.9 percent) and durable consumer goods (0.8 percent). Increases in capital goods prices (0.3 percent) and non-durable consumer goods (0.5 percent) were less marked but still significant.

January retail sales were up 0.4 percent and 0.1 percent when compared with last year. Food, drink & tobacco outperformed with a 0.6 percent advance while purchases of non-food products were up 0.4 percent. By member state, the most impressive monthly advance among the larger countries was in Germany (1.6 percent). Neither France nor Italy provided any data but, compounding other signs of a potentially steep slowdown in local economic activity, sales dropped especially sharply in Spain (1.1 percent).

Germany

January manufacturers’ orders dropped by 1.5 percent after declining 1.1 percent in December. These declines followed two remarkably strong monthly gains in October and November. On the year, orders were up 9.6 percent. Some weakening from what had been particularly robust gains earlier may be a reflection of changes to tax rules which probably prompted front-end loading of capital expenditures ahead of the expiration of accelerated depreciation rates on machinery and equipment at the end of 2007. There were monthly declines in all the major products groups led by capital goods which dropped 1.8 percent on the back of a 3.5 percent slump in the domestic component. Basic goods fell 1.2 percent and consumer and durable goods were off 0.6 percent, although the fall in this latter sector was concentrated in overseas demand as domestic orders rose 0.6 percent.

January industrial output jumped by 1.8 percent after a hefty positive revision to December (1.5 percent from 0.8 percent). On the year, industrial output was up 7.0 percent, the fastest pace since March last year (8.6 percent). Manufacturing output was up 1.9 percent on the month following an upward revised 1.7 percent increase at the end of 2007 to raise annual growth in this sector to an impressive 7.5 percent. A surprisingly large 6.2 percent monthly increase in the capital goods sector together with a probably weather-related 11.7 percent bounce in construction activity were solely responsible for the latest overall rise in production. There were notable declines in intermediates (1.0 percent), durable consumer goods (1.4 percent) and consumer non-durables (0.4 percent) as well as energy (5.6 percent) where output is also likely to have been affected by the warm weather.

France

Fourth quarter average unemployment rate for Metropolitan France according to the ILO measure fell a surprisingly large 0.3 percentage points to 7.5 percent in the quarter just ended. Including overseas departments, the jobless rate was somewhat higher at 7.8 percent but this still constituted an unexpectedly hefty 0.4 percentage point drop from the pervious period. The mainland rate was the lowest since the fourth quarter of 1983 and implied that about 2.1 million people were jobless at the end of last year, down from 2.3 million at the end of 2006.

Italy

January producer price index jumped 0.4 percent and 5.2 percent when compared with the same month a year ago. All of the major product categories were up including intermediates (0.6 percent), energy (0.5 percent) and capital goods (0.4 percent). Consumer goods, up 0.3 percent, registered the smallest advance with durables up 0.4 percent and non-durables up 0.3 percent. Prices of manufactured goods were up 0.2 percent and stand 5.3 percent above their year ago level. The only declines occurred in coke & petroleum products (1.5 percent), although the annual gain here remains easily the strongest (29.4 percent). The PPI excluding energy climbed 0.5 percent on the month and 3.0 percent on the year.

Asia/Pacific

Australia

Fourth quarter gross domestic product grew at a much faster pace than anticipated. Most analysts expected growth to slow sharply to 0.2 percent on the quarter. In reality it was up 0.6 percent and 3.9 percent when compared with the same quarter a year ago. The main contributors to growth were household final consumption and new machinery and equipment. However the largest negative contribution came from imports of goods and services. The strong data justify the week’s interest rate increase by the RBA. Clearly high interest rates appear not to have reduced spending as analysts anticipated. Food, vehicles and recreation and culture contributed to strong consumer spending. Household final consumption was up 1.6 percent on the quarter. Private fixed investment was up 0.4 percent thanks to an increase of 3.9 percent for new machinery and equipment (up 3.9 percent) and total intangible fixed assets (up 1.1 percent). However, new building could be feeling the pinch from interest rates, dropping 5.3 percent on the quarter. Dwelling investment however was up 2.1 percent driven by a 4.6 percent increase in alterations and additions.

January merchandise trade deficit expanded to A$2.723 million from A$1.937 in the previous month. The deficit expanded mainly due to an increase in goods and services imports that far outweighed an increase in exports. Exports were up 1.7 percent but imports soared by 5.4 percent. This is the result of the impact of the strong currency on exports and the soaring price of oil and strong domestic demand that are underpinning solid imports. The deficit is clearly heading in the wrong direction despite the best terms of trade in decades; this reflects the drought and infrastructure constraints that are hampering mineral exports in particular, as well as the surge in the currency that is raising the cost of exports and encouraging stronger demand for cheaper imports.

Americas

Canada

Fourth quarter gross domestic product was up 0.2 percent and 2.9 percent when compared with the same quarter a year ago. The main drag on growth last quarter was net exports which underlined the increasingly negative effects of the strong local currency. Hence, while total export volumes shrunk 2.2 percent from the previous period, real imports grew a solid 2.6 percent. However both personal consumption (1.8 percent from 1.1 percent in the third quarter) and current government spending (1.7 percent from 1.5 percent) accelerated in the fourth quarter while gross fixed capital formation (1.3 percent from 1.5 percent) slowed.

December monthly gross domestic product sank 0.7 percent and was up 2.0 percent when compared with a year ago. The decline was dominated by a 1.8 percent drop in output of goods producing industries although this was supplemented by a 0.2 percent dip in activity in the services sector. Industrial production fell 2.4 percent on the month with output in the mines, utilities and factories areas all posting declines. Manufacturing was down an even larger 3.2 percent, its weakest reading since December 2001. Motor vehicle output was especially soft, — down a whopping 27 percent for the largest decline since production cutbacks caused a 37 percent slump in January 1990. Excluding motor vehicles and parts, total output fell by a more modest 0.4 percent on the month.

February unemployment rate remained at 5.8 percent for the second month and a 33 year low while employment surged by 43,300 jobs. Actual joblessness rose by 6,000 to 1,056,000 although this was still some 29,700 below the year ago figure. The robustness of the latest employment report is reflected in another new record employment rate (63.9 percent). In addition, all of the job creation last month occurred in full-time positions (49,500) as part-time jobs edged lower (6,200). The services sector (55,800) was wholly responsible for the rise in the payroll as the goods producing sector (down 12,500) was once again in the doldrums. Within services, the largest single increase was in public administration (15,800) but there were also useful contributions from professional, scientific & technical services (15,600), trade (14,100) and information, culture & recreation (12,200). The two main losers in this group last month were educational services (10,900) and transport & warehousing (10,100). Within the goods producing area, the only gainers were construction (20,800) and utilities (3,200). Elsewhere job losses were widespread with falls in manufacturing (23,700), natural resources (8,800) and agriculture (3,800). Manufacturing has now shed some 106,000 jobs over the last twelve months.

Bottom line

Last week was dominated in Europe and Asia/Pacific by central bank announcements. All banks did the expected. The U.S. was awash in Fedspeak. In China, People’s Bank of China Governor Zhou Xiaochuan said that a stronger currency is not the best or only way to fight inflation. Fourth quarter gross domestic product was released for Canada and Australia. Growth eased in both countries.

Next week, many countries followed here will be releasing their trade balances, industrial output and inflation data. As the FOMC meeting approaches — it is scheduled for March 18 — investors will continue to focus on all things U.S. and continue to parse all Fedspeak statements until the blackout period begins about a week before the meeting.

Looking Ahead: March 10 through March 14, 2008

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