While the focus has been on the demise of the U.S. and UK economies, Europe’s gross domestic produce quietly sank in the second quarter. The U.S. and UK managed to grow in the second quarter, but the eurozone declined thanks to a host of factors — high commodity prices, high interest rates, a high euro and the credit crisis centered in the U.S. The decline is the first since the euro was launched in January 1999. And the prognosis is gloomy with prospects of a technical recession rising — it would be the eurozone’s first. A technical recession occurs when GDP declines for two consecutive quarters. Political leaders were sanguine about the downturn placing the blame for the current weakness on the external shocks of soaring commodity prices and the U.S. slowdown. However, the direct effects of the global credit squeeze are still hard to discern in countries such as Germany. Europe is not alone. The Japanese economy contracted as well — GDP declined by 0.6 percent in the second quarter which was its worst quarterly performance since the third quarter of 2001. Japan’s faltering economy is not matched in much of Asia’s emerging economies and oil producers where expansion has barely dimmed.

Global Markets

The major story in global markets continues to be the rapid assent of the U.S. dollar against most major currencies combined with the decline in commodity prices as traders factor in slower worldwide growth. Stocks however continued to swing on commodity prices and concerns about the financial sector as it continues to reel in the ongoing credit crunch. Stocks last week were mostly lower in Asia and Europe but mixed in North America. The Canadian S&P/TSX Composite continued to suffer the brunt of declining commodity prices. In the U.S., the Dow declined but the Nasdaq and S&P 500 managed to rise on the week. Both the currency and bond markets virtually ignored the bad inflation news from the UK, U.S., Japan and the EMU and focused instead on deteriorating growth.

Global Stock Market Recap

Europe and the UK

It was a down week in European and UK stocks as declining gross domestic product and a gloomy forecast from the Bank of England gnawed away at investors’ spirits. Commodity prices dropped — normally a plus for stocks such as airlines and auto makers. But resource company shares offset these increases and fluctuated in concert with commodity prices which were mostly headed downward last week. Resource companies gained when prices were up and declined as prices fell affecting overall trading results. This was true for the FTSE on Friday when resource companies dragged the index into negative territory for the day and for the week. Stocks were down Wednesday when worries — which are never too far from the surface — weighed on investors as they fretted anew about the financial sector. And in the UK, the stark inflation report solidified the gloom.

As usual, U.S. economic data also influenced the stock index’s direction. For example, European markets rose for the first time in three days on Thursday, as mining stocks rallied on rising metals prices and better-than-estimated earnings report lifted retailers. The day also witnessed a flurry of economic news both in the U.S. and in Europe. In the U.S. the CPI was up a worrying 5.2 percent on the year while initial jobless claims were down — but still remained at an elevated level. And in Europe, data showed the region's economy contracted in the second quarter for the first time since the launch of the euro almost a decade ago. The HICP was up double the ECB’s 2 percent inflation target at 4 percent on the year.

Bank of England’s Inflation Report

The Bank of England’s latest quarterly Inflation Report released last Wednesday is grim concerning both inflation and growth as forecasts for both were revised substantially from the previous report in May. Assuming that the Bank’s key interest rate remains at 5 percent, inflation as measured by the consumer price index would peak at about 5 percent in the third (the current) quarter and stay close to it into 2009. Governor Mervyn King said the inflation rate would fall below the 2 percent target in two years. The GDP forecast for the first quarter of 2009 was reduced substantially — to 0.1 percent on the year from 0.9 percent in a previous forecast. Flat output could mean that growth could decline for one or two quarters. Now it portrays virtually no growth at all in the year to spring 2009 despite a boost from exports, as consumer spending falters and business and residential investment falls. In his remarks, Governor King warned that the next year would be difficult with high inflation and output flat. The economy, he said, was undergoing a “painful adjustment” to the “unique combination” of the credit crisis and the shock of higher energy and food prices.

Asia/Pacific

Asian stocks declined as lower oil and gold prices dragged down commodity shares and Europe joined Japan in reporting an economic contraction. Only the All Ordinaries, Kospi, PSEi and SET gained on the week. In Japan, both the Topix and Nikkei declined as soaring prices on the producer level combined with declining second quarter gross domestic product painted a glum economic picture going forward. Stocks were down Wednesday as rekindled fears about the U.S. credit market undermined financial stocks and exporter’s stocks were ditched thanks to a strengthening yen. However, stocks did close higher on Friday as investors cheered an overnight drop in crude oil prices and the U.S. dollar's strength relative to the yen. But the gains were limited by lingering worries about the Japanese real estate sector and declining resource stocks. The declining yen helped boost exporters’ stocks. Tokyo stocks moved in a limited range with thin trading as many market players were away for the “Bon” summer holidays in Japan.

Chinese stocks continued to do a swan dive although they did manage to record a modest gain Friday. Chinese share prices posted their biggest daily loss in six weeks on Monday on strong producer prices, falling international commodity prices and speculation of more government share sales. The PPI increased 10 percent on the year after climbing 8.8 percent in June. The increase stoked fears that increased production costs will add to difficulties for Chinese companies. Falling international commodity prices, from metal to agricultural products, are also pressing down share prices of related companies.

People’s Bank of China issues its quarterly monetary policy report

In its quarterly monetary policy report published on Friday, the People's Bank of China (PBoC) stressed that its priorities were to maintain stable growth and fight inflation in the country. The Bank also reiterated its intention to keep the yuan stable at a “reasonable” level, as well as its intention to use a combination of policy tools to absorb excess liquidity in the economy. The PBoC also said that it expected economic growth to remain stable with the forces that were contributing to strong investment and consumption in the country still present. The Bank said it would fine tune its policy to maintain a balance between economic growth and fighting inflation as export growth weakens.

China has halted the yuan's gains, eased lending curbs and increased tax rebates for exports of textiles and garments after four quarters of slowing economic growth and as their export clients around the globe falter. The economy expanded 10.1 percent in the three months through June. Inflation has eased from a 12-year high of 8.7 percent in February to 6.3 percent last month on smaller gains in food prices. China is trying to curb inflows of “hot money” from investors betting on the continued appreciation of the yuan. The PBoC last increased its policy interest rate in December 2007 to 7.47 percent and has been raising bank reserve requirements since then.

Currencies

The currency story has been the decline in the pound sterling, euro and yen against the U.S. dollar which has risen very rapidly as overseas growth prospects have dimmed making the U.S. dollar more attractive to investors. Market players are also betting that while U.S. interest rates will probably rise, those in Europe and the UK are probably headed downward sooner or later. The same could be said for the formerly high-flying New Zealand and Australian dollars that benefited from the wide interest rate spread and carry trade transactions not too long ago. The Reserve Bank of New Zealand has already reduced its interest rate to 8 percent while the Reserve Bank of Australia is expected to reduce its current interest rate of 7.25 percent as soon as their next meeting on September 2 as growth slows in both countries. 

The euro came under renewed selling pressure Thursday after data showed that the eurozone economy contracted in the second quarter. Analysts said the figures would fuel fears that the region would fall into a technical recession, defined as contraction in two consecutive quarters. The data also prompted speculation that the European Central Bank would follow other leading central banks across the globe and abandon its hawkish stance on interest rates and reduce rates.

The pound sterling slid for an 11^th day against the dollar on speculation a recession will force the Bank of England to cut interest rates. The currency declined after the Bank of England’s gloomy inflation report implied to some analysts that there would be an interest rate cut sooner than market participants had been thinking. Sterling is down about 6 percent so far in August. The pound's losing streak in over 35 years.

Of all the currencies to have suffered from the U.S. dollar’s recent resurgence, the Aussie’s fall from grace is among the most remarkable. The Australian dollar has lost more than 11 percent against its U.S. rival during the last month and shows little sign of a sustained rebound. The Aussie’s current losing streak contrasts with a robust run in recent months – it climbed to a 25-year high of $0.9849 on July 15 and analysts talked of parity between the two currencies. Sharp climbs in the prices of the country’s commodity exports and the hawkish stance of the Reserve Bank of Australia, which pushed interest rates up to a 12-year high of 7.25 percent in March, supported this rise. But now commodity prices have dropped sharply since oil hit all-time highs last month amid increased fears of a global economic slowdown, and taking the Aussie with it.

Selected currencies — weekly results

Indicator scoreboard

EMU

June industrial production excluding construction was unchanged on the month and down 0.5 percent when compared with last year. By sectors, there were monthly increases in energy (1.0 percent) and non-durable consumer goods (0.9 percent). However, intermediates were down 0.2 percent, capital goods declined 0.4 percent and durable consumer goods inched down 0.1 percent. Production in the capital goods which was so important to growth in total industrial output last year has now contracted in three of the last four months.

Second quarter flash gross domestic product contracted by 0.2 percent and was up 1.5 percent when compared with last year. This was the only outright decline in real GDP since the data were first compiled in 1995. As with all flash estimates, no expenditure details are provided but it is clear from national statistics that a slump in fixed investment played a key role. Among the big four, only Spain managed any quarterly growth at all, and that was a minimal 0.1 percent. Germany (down 0.5 percent), France (down 0.3 percent) and Italy (down 0.3 percent) all saw output fall. To make matters worse, data for July in all these countries have pointed to a further deterioration. The performance of the smaller members was rather better and included respectable quarterly output gains in Belgium (0.3 percent), Greece (0.6 percent), Cyprus (0.7 percent), Austria (0.4 percent) and Portugal (0.4 percent).

July harmonized index of consumer prices was unexpectedly revised a notch lower to a 0.2 percent decline on the month and left the annual rate at a record of 4.0 percent. However, while down on the flash estimate, inflation is still twice its target rate. Core HICP which excludes food, drink, tobacco and petroleum was up a benign 1.7 percent on the year. Simply excluding energy, inflation was up 2.6 percent. On the year, prices were up for food (6.7 percent), alcohol & tobacco (3.7 percent,) housing (6.7 percent) and health (1.6 percent) while prices were down in the clothing sector (0.5 percent).

Germany

Second quarter flash gross domestic product declined 0.5 percent after soaring 1.3 percent in the first quarter. On the year, GDP was up 2.6 percent after gaining 2.6 percent on the year in the first quarter. This was the first decline in real GDP since the third quarter of 2004. As usual, few details are available in the preliminary data but the Statistics Office cited weak construction investment as a major drag, only partly offset by a positive contribution from net exports, although the latter mainly reflected lower imports. The slide into negative territory last quarter needs to be seen in the context of the still remarkable first quarter performance.

France

June industrial output excluding construction declined 0.4 percent and was down 1.6 percent when compared with last year. Weakness was broad-based. Overall manufacturing production was off 0.8 percent on the month led by another hefty drop in autos (2.9 percent). There were also large declines in capital goods (1.0 percent) where electronic goods fared especially badly (3.4 percent) and in food & agriculture (0.9 percent). Semi-finished goods were down 0.4 percent leaving just consumer goods (0.5 percent) to post a gain. Even so, within this latter sector clothing was particularly poor (down 2.3 percent) and output in this sector was fully 12.4 percent lower on the year. Outside of manufacturing, energy production was up 1.4 percent from May due largely to a jump in fossil fuels (2.7 percent) while construction activity expanded 0.7 percent.

Second quarter flash gross domestic product contracted by 0.3 percent which reduced annual growth to 1.1 percent. This is in contrast to first quarter growth of 0.4 percent and 2 percent on the year. The preliminary report shows that while consumption edged up 0.1 percent on the quarter, capital spending collapsed by 1.5 percent, exports slumped 2.0 percent and imports dropped 0.3 percent. Foreign trade cut 0.5 percentage points from bottom line GDP growth. Things would have been even worse but for a sharp increase in business inventories which added 0.3 percentage points. Domestic demand excluding stock building was down a disappointing 0.1 percent from the previous quarter.

United Kingdom

June merchandise trade deficit expanded to Stg7.7 billion for the largest increase since January. Both exports and imports were up 4.2 percent and 4.1 percent respectively. The bilateral gap with the EU narrowed by Stg0.4 billion to Stg2.9 billion but the improvement here was more than offset by a Stg0.7 billion widening in the deficit with the rest of the world to a record Stg4.7 billion. Excluding oil and erratics, the core trade shortfall widened by Stg0.2 billion to Stg7.6 billion.

July producer output prices were up 0.4 percent and 10.2 percent when compared with last year and the fastest pace since the series began in 1986. Core output prices were up 0.3 percent and 6.7 percent on the year. The latest gains were once again driven by petroleum products (4.2 percent on the month and 34.2 percent on the year). Other sizeable advances were recorded by food (1.1 percent and 11.8 percent on the year) and chemical products (1.0 percent and 11 percent on the year). Seasonally adjusted input prices were down 0.6 percent but still up 30.1 percent on the year. Fuel was up 1.9 percent and imported chemicals climbed 1.3 percent. However, there were declines in the prices of home food materials (3.1 percent) and imported metals (0.5 percent). Over the year, crude oil prices were 86.4 percent higher, dominating otherwise hefty increases of 31.9 percent in fuel, 29.8 percent in home food materials and 26.2 percent in imported food materials.

July consumer prices index was unchanged on the month and soared a record 4.4 percent when compared with last year. This is more than twice as large as the Bank of England’s inflation target rate of 2 percent. Core CPI declined 0.2 percent on the month but was up 1.9 percent on the year. The main culprits behind the jump in the 12-month CPI rate were food & soft drinks ( up 12.3 percent from 9.5 percent), furniture & household equipment (up 2.8 percent from 1.8 percent), housing, utilities & fuels (up 7.6 percent from 7.0 percent) and transport (up 8.0 percent from 7.3 percent). Other gains were less marked but fairly widespread. Prices declined in clothing & footwear. Total goods inflation rose to 4.7 percent from 3.8 percent while service sectors prices accelerated to 4.1 percent from 3.9 percent.

Average earnings for the three months through June declined to 3.4 percent from 3.8 percent when compared with last year. For June, the monthly annual growth rate fell to 3.3 percent. Excluding bonuses, the rate slowed to 3.7 percent from 3.8 percent. The deceleration in the overall headline rate was due to slower gains in both the private sector (3.5 percent from 3.9 percent) and the public sector (3.3 percent from 3.5 percent). In manufacturing, the rate dropped sharply to 2.8 percent from 3.6 percent while in services it slid to 3.7 percent from 4.2 percent.

July claimant unemployment was up by 20,100 and nudged the jobless rate up to 2.7 percent. The monthly rise in unemployment followed an upwardly revised increase of 20,000 in June and constituted the largest gain since December 1992. For the three months ending in June, employment as defined by the International Labour Organisation increased 20,000 over the previous period while unemployment climbed 60,000. This boosted the jobless rate up to 5.4 percent from 5.2 percent in the previous period. This is its highest level since the third quarter of 2007.

Asia/Pacific

Japan

July corporate goods price index was up 2.0 percent and soared 7.1 percent when compared with last year and the largest on-the-year increase since January 1981 when the index soared by 8 percent. Import and export prices were also released at the same time. Export prices on a yen basis were up 1.2 percent on the month but down 2.8 percent on the year. Import prices paint a very different picture. Import prices jumped 2.8 percent and 21.6 percent on the year on a yen basis. Contributing to the jump in domestic prices were petroleum & coal products (up 9 percent on the month and 43.6 percent on the year), iron & steel (up 6.6 percent and 26.7 percent on the year) and chemicals & related products (up 3.6 percent and 7.3 percent on the year). As would be expected, petroleum, coal & natural gas (up 6.1 percent and 67.9 percent on the year) were responsible for virtually all the increase in import prices.

Second quarter gross domestic product declined 0.6 percent when compared with the first quarter but was up 1 percent when compared to the same quarter a year ago. Second quarter GDP declined at an annual rate of 2.4 percent. There was no good news in the release given the broad weakness in the domestic economy. All components of GDP were down with the exception of government spending which inched up 0.1 percent on the quarter. Private consumption was down 0.5 percent. Private residential investment sank 3.4 percent while private non-residential investment slipped by 0.2 percent. Gross fixed capital formation was down 1.5 percent. When compared with the same quarter a year ago, the news is also dismal. Declines were led by private residential investment which plummeted 15.6 percent after sinking 16.6 percent in the first quarter. Gross fixed capital formation declined by 2.7 percent. Non-residential investment did manage to increase 1.3 percent on the year while private consumption managed to increase by 0.6 percent. The GDP price deflator continues to be negative. It was down 1.5 percent on the year.

June tertiary index was down 0.8 percent and declined 0.9 when compared with last year. This was slightly less than analysts’ expectations of a 1.0 percent drop. The following industries declined: wholesale & retail trade (down 1.7 percent), transport (down 2.0 percent), information & communications (down 1.4 percent), services (down 0.4 percent), electricity, gas, heat supply & water (down 1.8 percent) and compound services (down 2.6 percent). Industries that were up on the month included, finance & insurance (up 0.5 percent), real estate (up 0.4 percent), learning support (up 1.7 percent), eating & drinking places & accommodations (up 0.2 percent) and medical, health care & welfare (up 0.2 percent).

China

July producer price index was up 10 percent when compared with last year after increasing by 8.8 percent in June. Seasonally adjusted PPI was up 1.3 percent on the month. The spike in July PPI came on the back of the hikes in domestic oil products and energy prices, while some other commodity prices, including coal, also picked up during the month.

July seasonally adjusted consumer price index was up 0.1 percent and 6.3 percent when compared with the same month a year ago. For the first seven months of the year, the CPI has risen by 7.7 percent when compared to the same months a year ago. Non-food prices were up 2.1 percent on the year while food prices were up 14.4 percent on the year.

July industrial production was up 14.7 percent from a year earlier and the slowest pace since February 2007. One of the reasons for the slower growth was weaker export orders which were blamed on a combination of the stronger Chinese currency and the cooling of the global economy. Another factor was the factory shutdowns to clear the air for the Olympic games. Higher costs especially for oil and iron ore have had a dampening effect on output. Textile output was up 10 percent on the year after rising 12.4 percent in June while steel products output was up 7 percent from 11 percent in the previous month.

Hong Kong

Second quarter seasonally adjusted gross domestic product dropped 1.4 percent. This was the first quarter-to-quarter decline since the second quarter of 2003. GDP was up 4.2 percent when compared with the same quarter a year ago and follow a strong 7.3 percent gain in the first quarter. The moderation in growth was attributed to the strong headwinds from the slowing growth in the advanced economies and lingering financial market turbulence, which had increasingly posed a drag on the economic growth of the Asian region, including that of Hong Kong. 

India

June industrial production was up 5.4 percent when compared with last year after a revised gain of 4.1 percent in May. Manufacturing, which accounts for about 80 percent of production, gained 5.9 percent. Electricity output rose 2.6 percent, mining grew 2.9 percent and consumer goods production increased 10 percent.

Indonesia

Second quarter gross domestic product expanded by 2.2 percent on the quarter and 6.4 percent when compared with the same quarter a year ago. GDP was up 6.3 percent in the first quarter on the year. GDP was up on a combination of strong export growth for coal, palm oil and rubber along with rising prices. Rising shipments to India and China offset weaker demand from the U.S. Second quarter consumption growth slowed to 5.3 percent from a 5.5 percent gain in the first quarter while government spending was up 2.2 percent after rising 3.6 percent in the first quarter.

Americas

Canada

June merchandise trade surplus was C$5.8 billion, up from C$5.2 billion in May. Exports were up 3.1 percent while imports gained 2.0 percent. Nonetheless, price effects were important as export volumes slipped 1.4 percent from May while real imports were 0.6 percent lower. The jump in exports reflected a 5.3 percent gain in U.S purchases, augmented by a 3.7 percent increase in other non-OECD buying. However, there were declines in shipments to Japan (9.2 percent) and the EU (0.7 percent). Imports meanwhile were underpinned by purchases from other OECD countries (32.5 percent) as inflows from the U.S. (0.4 percent) and Japan (0.8 percent) expanded only modestly and fell from the EU (1.6 percent). The bilateral balance with the U.S. widened out to C$9.6 billion from C$8.1 billion. Energy exports were up 11.5 percent while the auto sector increased by 7.7 percent and other consumer goods by 7.1 percent. However, machinery & equipment dropped 6.2 percent while agriculture & fishing were down 3.1 percent. Imports were again boosted by energy (17.9 percent) but autos (7.4 percent) also fared well. Other areas were typically weak and included declines in industrial goods & materials (4.4 percent), machinery & equipment (3.4 percent) and other consumer goods (1.1 percent).

June manufacturing shipments jumped by 2.1 percent and were up 2.3 percent when compared with last year. However, in line with the May data, the June report flatters to deceive since sharply higher commodity prices again made for a misleadingly firm headline reading. In volume terms, sales rose just 0.6 percent on the month. Even so, nominal shipments have now advanced in five of the last six months. In June, 14 of the 21 reporting industries registered gains. The largest contribution came from petroleum & coal products (6.4 percent) but almost all of the rise was attributable to higher prices (6.2 percent). The other major winners were primary metal manufacturers (6.1 percent) and motor vehicles (4.2 percent). Backlogs continued to rise (1.5 percent) and new orders increased for the third time in four months (2.9 percent). At the same time a 0.6 percent increase inventories was small enough to see the inventory-to-sales ratio drop for the third consecutive month to 1.27 months, well below the recent 1.34 month high seen in January.

Bottom line

The GDP data last week painted a dour picture of the world economy. In the EMU, only Spain of the big four countries grew in the second quarter and that was only by a paltry 0.1 percent on the quarter. And Japan confirmed suspicions that it too had declined in the second quarter. But Japanese data are notoriously known for their revisions so the jury is still out on the actual figures. Inflation data also contributed to the malaise with the UK and the EMU reporting price increases far above their inflation targets. The U.S. dollar soared against most major currencies as commodity prices declined.

Next week is relatively quiet as the last two weeks of summer begin. The major event is the Bank of Japan monetary policy meeting which ends Tuesday local time. No policy change is anticipated despite declining growth.

Looking Ahead: August 18 through August 22, 2008

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