Global Markets

Central bank activity picked up last week in Asia with the Banks of Thailand and Korea increasing their policy rates by 25 basis points and the People’s Bank of China announcing yet another increase in reserve requirements. In the UK and Europe however, both the Bank of England and European Central Bank maintained the status quo and left policy unchanged.

Worries about sovereign risk continued to make investors wary. However, successful bond auctions in Portugal especially and then in Spain eased fears for now. The Portuguese auction is seen as a critical test of market confidence. Prime Minister José Sócrates maintains that Portugal can meet its €20 billion in financing needs this year — equivalent to 11 percent of its gross domestic product — without a bailout from its European partners and the IMF. Such a rescue would require Portugal to surrender a large degree of economic sovereignty. But many analysts believe yields of around 7 percent on Portugal’s benchmark 10-year bonds are unsustainable. Last year, both Greece and Ireland were forced to apply for rescue funding within a month of breaching the 7 percent level.

Equity markets responded to mixed economic data especially from the U.S. as well as the first earnings reports of the season. They also took note of the central bank actions in Asia.

People’s Bank of China

The People's Bank of China said Friday that it will raise the commercial bank reserve requirement by 50 basis points effective January 20. The increase will take the ratio for China's biggest banks up to a record 19 percent. The Bank raised the reserve requirement six times last year and is expected to continue to do so in 2011 to tackle excess liquidity as well as rising inflationary pressures. Friday's ratio announcement comes after the Bank increased its lending and deposit rates on December 25, 2010 — the second such move last year. The Bank’s last increase in its reserve requirement took effect on December 20, 2010.

China has lagged behind counterparts across Asia in taking steps against inflation as food and commodity costs climb as growth rebounds. Both Thailand and Korea increased their policy rates last week. The Reserve Bank of India has lifted rates six times since March.

Global Stock Market Recap

Europe and the UK

The FTSE, DAX and CAC were up on the week as sovereign debt concerns were eased by Portuguese and Spanish bond sales. However, the three indexes were dragged down in early Friday trading by news that China had raised its bank reserve requirements again in its efforts to tamp down inflationary pressures. But strong earnings results from JPMorgan helped offset losses and banking stocks advanced. U.S. economic data were mixed but equities there managed to hold onto gains and this in turn boosted morale across the pond. On the week, the FTSE was up 0.3 percent, the DAX gained 1.8 percent and the CAC jumped a healthy 3.0 percent.

Sovereign debt worries were put aside after successful bond auctions by Portugal on Wednesday and Spain the following day eased concerns that the nations would need a financial bailout. European Union governments are discussing proposals to increase the €440 billion bailout fund for indebted eurozone countries, recognition that the fund might prove too small if the region's debt crisis spreads to Spain, according to European officials. No decision has been taken yet, and none is currently expected at next week's meeting of EU finance ministers.

Japan's commitment to buy eurozone bonds helped slightly ease worries about the region's debt issues. Japan plans to buy bonds issued by Europe’s financial aid funds. It joins China in assisting the region as it battles against a debt crisis that prompted bailouts of Ireland and Greece. Japan will use existing euro assets in its foreign exchange reserves to buy more than a fifth of bonds to be issued later in January by the European Financial Stability Facility.

Bank of England

To no one's surprise, the Bank of England’s monetary policy committee elected to leave both official interest rates (0.5 percent) and the quantitative easing (QE) ceiling (Stg200 billion) unchanged. The latest decision probably again reflects a majority vote with at least hawk Andrew Sentance likely reiterating his call for higher rates and dove Michael Posen his preference for more QE. Although inflation is still well above the Bank’s 2 percent target and the real economy has shown signs of improvement, the near term outlook is clouded by the effects of the coldest December on record and this month's increase in VAT. Most forecasters currently expect the first move on rates to be delivered in the final quarter of the year with Bank Rate ending 2011 at just 1.0 percent. Few now expect any further increase in QE.

European Central Bank

The European Central Bank confirmed expectations that monetary policy is on hold for the time being and held its benchmark refinance rate steady at 1.0 percent. The deposit facility rate (0.25 percent) and marginal lending facility rate (1.75 percent) were similarly left unchanged.

At his post-meeting press conference ECB President Trichet gave little away about when policy would be changed. Trichet expressed confidence in the ability of the existing policy stance to deliver price stability and suggested that current economic risks are slightly on the downside. However, the ECB also sees the recent rise in inflation above its near-2 percent target as likely to persist for the time being as commodity prices continue to firm. However, so long as the core measures remain well behaved and inflation expectations anchored, the implications for policy will not be significant. As previously announced, the ECB will continue to conduct its regular 1-week, 1-month and 3-month auctions on a fixed rate, full-allotment basis through the end of the first quarter.

Following successful bond auctions in Portugal and Spain, immediate pressures on the central bank stemming from the EU debt crisis have eased somewhat in the last few days. However, lower than feared yields here were in no small way due to earlier ECB buying as part of a reluctantly adopted policy that was supposed to have been withdrawn some while ago. With upcoming data likely to underline the performance gap between the core and peripheral EMU economies, the ECB will continue to struggle to make one interest rate fit all member states.

Asia Pacific

Equities in the Asia Pacific region were mixed with only five of 13 indexes followed here gaining on the week. The Hang Seng gained 2.5 percent and was trailed by the Taiex and All Ordinaries, up 2.2 percent and 2.0 percent respectively. The Sensex slid 4.2 percent on a combination of inflation worries and another policy interest rate increase from the Reserve Bank of India.

Investors here vacillated between optimism and pessimism on the viability of global growth. Market participants focused on the slew of new U.S. economic data released along with European debt concerns which were eased following the successful bond auction in Portugal. The massive floods in Queensland, Australia troubled investors although the worst appears to be over. The Reserve Bank of Australia estimates the floods will cut 1 full percentage point from growth.

Bank of Thailand

The Bank of Thailand increased its policy interest rate to 2.25 percent. It was the fourth increase in seven months and signaled that it would continue to boost rates further to contain inflation which in turn is spurring gains in the Thai Baht. The baht has climbed more than 9 percent since the end of 2009. Thailand along with its neighbors from Malaysia to China increased interest rates last year as Asia rebounded from the global recession, pushing labor and commodity costs higher. The decision was unanimous. Thailand will begin this month to release minutes from the meeting two weeks after the decision.

Bank of Korea

Bank of Korea’s monetary policy board voted unanimously to increase its policy interest rate by 25 basis points to 2.75 percent. Inflationary concerns caused the bank to take action. December consumer prices were up 3.5 percent on the year while producer prices jumped 5.3 percent on the year. The Bank said that the increases have been driven by petroleum and farm products.

Currencies

The euro soared to its highest level in 2011 against the U.S. dollar on Thursday after ECB President Jean Claude Trichet said that the Bank was not likely to increase interest rates in the near term. Trichet acknowledged that prices are rising mainly due to energy prices, but he said the pressure is not jeopardizing price stability. Trading in the euro has been volatile with the currency jumping more than 5 cents from a 4 month low of $1.2783 set earlier in the week. The euro also rallied against the yen. The euro was also helped by the successful bond auctions by Portugal and Spain that helped ease concerns over sovereign debt.

The U.S. dollar lost ground against its other major currency partners including the Swiss franc, pound sterling and Canadian dollar. It was virtually unchanged against the yen. The dollar was pressured by mixed economic news. Many of the new releases disappointed including retail sales, initial jobless claims and consumer sentiment. The waning of sovereign debt worries also removed for now the need of a safe haven.

Selected currencies — weekly results

Indicator scoreboard

EMU

November industrial production excluding construction was up 1.2 percent after an unrevised 0.7 percent advance in October and boosted annual workday adjusted growth from 7.1 percent to 7.4 percent. The latest increase saw output at its highest level in two years. November's jump was attributable to strength in all the main sub-sectors except households where output of consumer nondurables was steady on the month and of durables just 0.1 percent higher. Intermediates expanded 1.6 percent and capital goods grew 1.4 percent. Energy production was also robust, up 1.5 percent from its October level.

December harmonized index of consumer prices was up 0.6 percent and 2.2 percent on the year and the fastest annual rate since October 2008 and about 0.2 percentage points above the ECB's target level of 2 percent. All three main core measures held steady at the uniform 1.1 percent annual rate posted in November. The main product categories underline the importance of the energy sector to overall developments as annual inflation here jumped from 7.9 percent in November to 11.0 percent. Higher 12-month rates were also seen in food (1.8 percent from 1.4 percent), alcohol and tobacco (3.6 percent from 3.4 percent) and housing (3.8 percent from 3.3 percent). Transport (5.2 percent from 3.8 percent) was especially badly hit buy the jump in fuel costs. However, elsewhere prices actually fell. Annual rates eased in clothing (0.7 percent from 1.0 percent), household equipment (0.6 percent from 0.7 percent), health (0.8 percent from 0.9 percent), recreation and culture (minus 0.1 percent from 0.0 percent) and in education (1.5 percent from 1.6 percent).

France

November industrial production excluding construction rebounded 2.3 percent after sliding 0.8 percent in October. On the year, output was up 6.0 percent. November's advance reflected broad based increases and overall manufacturing output was up a solid 2.2 percent on the month. Transport equipment (2.1 percent) was especially robust and activity in the highly erratic energy sector more than doubled following a strike related drop in excess of 50 percent last time. Electronics & machine equipment was up 0.2 percent but the other manufacturing category saw production strengthen 2.1 percent. Outside of construction (down 1.3 percent), the only major group not to see output expand was food & drink which was unchanged on the month.

United Kingdom

November merchandise trade gap widened out slightly in October to a new record high of Stg8.74 billion. Exports were up 4.1 percent on the month while imports gained 3.4 percent. The latest deterioration reflected a marked turnaround in the oil balance which swung from a small surplus in October into a Stg0.66 billion deficit. However the underlying picture was brighter with the overall shortfall excluding oil and other erratic items shrinking from Stg8.0 billion to Stg7.4 billion. The improvement was due to a 3.5 percent monthly increase in exports to their highest level since May 2006. Overseas purchases of cars, chemicals and semi-finished manufactured items were particularly robust. By contrast, imports were only flat as declining consumer & intermediate goods purchases offset gains elsewhere. Regionally, the deficit with the rest of the EU expanded by Stg0.2 billion to Stg3.7 billion but shrank by Stg0.1 billion to Stg5.0 billion with the rest of the world.

November industrial production was up 0.4 percent and 3.3 percent on the year while manufacturing output gained 0.6 percent on the month and 5.6 percent on the year. The bounce in manufacturing output reflected increased activity in eight of 13 sub-sectors and a contraction in five. The largest positive contribution to the monthly gain was made by transport & equipment (3.2 percent), mainly thanks to a jump in car production, followed by food, drink & tobacco (0.9 percent). On the negative side, the steepest decline was registered in electrical & optical industries (1.2 percent). Overall industrial production was held back by a decline in output in both in the oil & gas extraction area (down 0.7 percent) and in mining & quarrying (down 0.6 percent). However, utilities expanded 0.3 percent.

December producer output prices were up 0.5 percent and 4.2 percent when compared with last year. Producer input prices surged 3.4 percent on the month and 12.5 percent on the year. The monthly rise in output prices was led by higher charges for petrol (2.4 percent) which alone added more than 0.2 percentage points to the headline gain. Food prices (1.1 percent) were similarly robust and essentially accounted for most of the rest of the overall increase. However, other categories were well behaved with only chemicals & pharmaceuticals (0.5 percent) exceeding a 0.3 percent monthly rate. The core index was up only 0.2 percent from November to register annual growth of 2.9 percent, down from 3.3 percent last time. The monthly jump in input costs was also dominated by energy with an 8.1 percent leap in crude oil prices alone worth nearly 2 percentage points of the headline increase. Fuel prices (4.5 percent) and home food materials (3.4 percent) similarly registered especially strong gains and there were hefty advances too in imported metals (3.0 percent) food materials (1.5 percent) and parts and equipment (1.3 percent).

Asia/Pacific

Japan

December corporate goods price index was up 0.4 percent on the month and a greater than expected 1.2 percent on the year. The index has now increased three consecutive times both on the month and year. Petroleum & coal products were up 2.9 percent on the month and 7.8 percent on the year. Nonferrous metals were up 3.0 percent and 10.9 percent on the year. Information & communications equipment was unchanged on the month but dropped 5.8 percent on the year. The electronic components & devices component was down 0.6 percent on the month and 3.7 percent on the year.

Australia

November seasonally adjusted retail sales were up a less than expected 0.3 percent. Sales were up 1.3 percent on the year. Other retailing and department stores were both up 0.8 percent on the month and recorded the largest increases. They were followed by cafes, restaurants & takeaway food services (up 0.4 percent), household goods retailing (up 0.3 percent) and clothing, footwear & personal accessory retailing (up 0.3 percent). Food retailing edged down 0.1 percent.

November seasonally adjusted merchandise goods and services balance was a surplus of A$1,925 million, a decrease of A$636 million on the surplus in October 2010. Exports were virtually unchanged on the month, while imports were up 2.9 percent. Exports of rural goods were up 1 percent while non-rural goods were up 2 percent. Non-monetary gold exports dropped 21 percent. Services exports were down 1 percent. The main component contributing to the decrease was travel, which was down 2 percent. Seasonally adjusted imports of capital goods were up 8 percent while intermediate and other merchandise goods gained 4 percent and consumption goods edged up 1 percent. Non-monetary gold dropped 2 percent. Services imports were up thanks to travel which was up 1 percent. Partly offsetting was maintenance and repair services.

December employment edged up by 2,300 jobs. Full time employment increased by 1,700 while part time employment was up 600. The unemployment rate surprised, dropping to 5.0 percent from 5.2 percent. The male unemployment rate declined to 4.7 percent from 4.9 percent and the female unemployment rate slid to 5.3 percent from 5.5 percent. Unemployment was down by 25,400 to 426,300. The number of persons looking for full time work decreased 11,500 to 426,300 and the number of persons looking for part time work decreased 13,900 to 172,400. The participation rate was down 0.2 percentage points to 65.8 percent.

Americas

Canada

November merchandise trade gap narrowed to just C$81 million. Exports were up 0.8 percent while imports sank 3.2 percent on the month. The drop in imports was dominated by purchases of energy products which, in real terms, slumped 15.1 percent. Overall import volumes were off 2.4 percent while prices dropped 0.8 percent, their fourth consecutive monthly slide. Among the other major categories, cash imports also declined on the month in machinery & equipment (5.1 percent), autos (4.4 percent) and forestry products (3.3 percent). To a limited extent the declines were offset by an increase in industrial goods & materials (2.3 percent). Within the monthly gain in nominal exports, volumes dropped 2.0 percent. Cash exports were hit by a 10.4 percent nosedive on the month in the auto sector, compounded by weakness in machinery & equipment (2.4 percent) and forestry products (1.3 percent). The main winner was the other consumer goods area which saw an 11.5 percent advance. Industrial goods & materials (6.6 percent) also held up well as did energy products (3.2 percent). Regionally the bilateral surplus with the U.S. widened out by C$1.3 billion to C$3.0 billion as exports were up 0.6 percent from October while imports declined 5.1 percent.

Bottom line

Trading was volatile especially in the currency markets as investors weighed the first earnings reports, a slew of mixed economic data and the success of Portuguese and Spanish bond auctions. As expected, the Bank of England and European Central Bank left policy unchanged while the Banks of Thailand and Korea increased their policy rates. The People’s Bank of China surprised and once again increased reserve requirements.

New economic information will be scarcer this week in the U.S. Housing information predominates with housing starts and existing home sales on the calendar. The Bank of Canada, which makes its policy announcement on Tuesday, is the only major central bank scheduled. In Germany, the ZEW survey will measure business sentiment while in the UK, December retail sales will be viewed carefully in light of the poor weather. Investors will also respond to earnings reports as they continue to unfold.

Looking Ahead: January 17 through January 21, 2011

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