Global Markets

Markets hate uncertainty and they had their share of it last week as investors monitored the ebb and flow of every word and rumor concerning the European sovereign debt talks. Political divides continue to threaten the attempts at reaching a solution to the Eurozone’s woes. Equity indexes had something in common this week — they all gyrated on each news release concerning the Eurozone negotiations. Indeed, regional concerns took a back seat to anything coming out of Europe. On the week, equities were mixed. Gains ranged from 0.1 percent (DAX) to 1.4 percent (Dow). Losses ranged from 0.2 percent (KLCI) to 4.7 percent (Shanghai Composite).

EU leaders are scheduled to meet on October 23^rd and again on October 26^th in an attempt at an agreement to defuse the festering situation. Disagreement over the European Central Bank’s role is threatening to hinder progress on the banking and economic questions needed to deliver the comprehensive strategy demanded by global policy makers and markets. The biggest challenge is agreeing on the method of beefing up the EFSF. France has argued the most effective way of leveraging it is to turn it into a bank which could use funding from the European Central Bank but both the ECB and Germany oppose this.

Germany and France, still at odds over a more forceful response to the sovereign debt crisis, postponed a decision making summit meeting for several days amid signs that the complexities of European politics may block an all-encompassing resolution. By saying they need more meetings the leaders prolonged the suspense and created the impression that they were having trouble agreeing on details, including ways to maximize the use of the €440 billion bailout fund. There is a broad based agreement on the need to restock capital cushions at European banks so they could withstand a default by Greece. But agreeing on how much money banks should raise — and where the money should come from — is another matter.

European Union officials hope to reduce the amount of money that Greece, which is virtually bankrupt, owes the banks so that it might be able to get back on its feet faster. This summer, banks agreed to take losses estimated at 21 percent. However with Greece’s economy getting worse by the day, some policy makers now want the banks to accept losses on their holdings of Greek debt of 50 percent to 60 percent.

The major sticking point is over how to scale up the European Financial Stability Facility, a €440 billion fund used to bail out Portugal and Ireland. France and Germany disagree over the best method to bolster the facility, with France fearing it could lose its triple-A credit rating if the wrong method is chosen. Failure to agree on leveraging the EFSF will further damage confidence in the Eurozone’s ability to tackle its debt crisis after nearly two years of trying to get on top of a problem that started in Greece and now threatens Italy, Spain and even France, not to mention the broader global economy.

Global Stock Market Recap

Europe and the UK

Stocks rebounded strongly Friday on optimism that a solution will be reached in the sovereign debt crisis. Friday’s advances allowed several indexes to turn a mostly negative week into a positive one. Investors here as elsewhere followed every twist and turn via media of the ongoing sovereign debt negotiations. Thursday, for example, stocks were hammered, as talk of another postponement of a crucial EU Summit overshadowed a mixed bag of earnings results. On Friday, optimism returned. On the week, the FTSE advanced 0.4 percent while the DAX edged up 0.1 percent. However, the CAC dropped 1.4 percent and the SMI slipped 0.1 percent.

Germany sharply lowered its growth forecast for next year to 1.0 percent from 1.8 percent previously in response to uncertainty arising from the debt crisis according to the country’s Economy Minister Philipp Roesler. The Economy Ministry, which makes the forecasts for the government, said weaker exports due to a global slowdown were the main reason for the easing pace of growth. However, despite the predicted slowdown, the country is not headed for a recession. He pointed to positive growth in the second half of 2011 and that the German economy would grow a robust 2.9 percent in 2011 — above the 2.6 percent forecast in April. He also noted that unemployment is also standing at a record low and order books are full.

Bank of England

As generally anticipated, minutes of the October monetary policy committee meeting showed that all nine members voted in favor boosting the Bank’s asset purchase program by Stg75 billion to Stg275 billion. Discussions centered on additional asset purchases of between Stg50 billion and Stg100 billion. There was also confirmation of a unanimous decision to maintain bank rate at 0.5 percent. The MPC saw a weaker outlook for — and increased downside risks to — output growth due to increasing excess capacity. This increases the likelihood that inflation would undershoot its 2 percent target in the medium-term.

The announcement on October 6 was not a major surprise but still came a month ahead of most expectations which assumed any such move would be linked to the release of the BoE's Quarterly Inflation Report. As such the timing would seem to underline the extent of the shift in the MPC's economic view and so it is of little surprise that the minutes indicate a clear willingness to inject further monetary stimulus should the latest policy initiative not deliver. Indeed, there was agreement that the amount of QE could be adjusted according to developments in financial markets in general and in the Eurozone in particular.

Asia Pacific

Asian stocks swung between gains and losses as they had during the week as conflicting reports about an agreement between European leaders on how the Eurozone's bailout fund could be used to tackle the region's debt crisis prompted investors to move to the sidelines ahead of Sunday's meeting in Brussels. Investors remained cautious over the prospects for Europe's bailout plan after France and Germany said Eurozone leaders will meet for a second time on Wednesday (October 26) to sort out differences and evolve more solid and ambitious measures to end the crisis.

Only the Kospi (0.2 percent) and the PSEi (0.3 percent) advanced on the week. The SET dropped 4.1 percent as flooding plagued Thailand and disrupted productive activities for companies such as Toyota and Apple. The Shanghai Composite dropped 4.7 percent after China’s third quarter GDP growth edged down to 9.1 percent on the year from 9.5 percent in the second quarter. Worries over a potential liquidity crunch from additional Chinese stock offerings, tighter monetary policies and uncertainties ahead of the European Union's summit weighed on investor sentiment. In other markets, the declines varied from 0.2 percent (KLCI) to 2.6 percent (Hang Seng). The All Ordinaries slipped 1.5 percent and the Sensex lost 1.7 percent.

Reserve Bank of Australia

The Reserve Bank of Australia released the minutes of its October 4^th meeting at which time, the key policy interest rate was left at 4.75 percent. The minutes noted that policy review would be based on international market behavior, inflation and economic activity. Inflation appears less of a problem. Second quarter underlying inflation is in the 2.25 percent to 2.5 percent range rather than 2.5 percent to 2.75 percent based on revised index weights and seasonal adjustments. The RBA noted that recent data point to a softening in the labor market and the threat of labor cost pressures appears to be weakening.

The Bank said that conditions in the global financial markets continued to be very unsettled with uncertainty increasing about both the prospects for resolution of the sovereign debt and banking problems in Europe and the outlook for global economic growth. This was reflected in declines in measures of consumer and business confidence in the major economies, and it was likely to weigh on both spending and growth there. The slowdown could spread to other regions, but so far indications were that economic activity was continuing to expand in China and other parts of Asia. Overall, recent events had led forecasters to reduce their estimates for global GDP growth. Prices for commodities had also declined over recent weeks, although they remained relatively high.”

Currencies

The dollar declined Friday as flight to safety trades evaporated on optimism that an agreement would be reached on the debt crisis. However, the yen continued to catch a robust safe haven trade. These trades are contributing to worrisome headwinds for the already struggling Japanese economy. The euro held up surprisingly well last week considering the obvious worries throughout the markets over the European debt crisis. The dollar fell to a post-World War II low against the yen Friday and dropped against all of its major counterparts on speculation Europe is moving closer to resolving its debt crisis and the Federal Reserve may seek further monetary easing. The yen’s surge Friday came after it set a record on August 19, which followed a ¥4.51 trillion intervention earlier in the month by Japan. The nation has intervened in the foreign exchange markets three times in the past 13 months to weaken the yen.

The pound sterling strengthened to a six-week high against the dollar after a government report showed the nation’s budget deficit narrowed in September more than forecast. Sterling appreciated against both the dollar and the yen as UK stocks were boosted by optimism European policy makers are moving closer to agreement on a plan to help contain the region’s debt crisis.

Selected currencies — weekly results

Indicator scoreboard

Germany

October ZEW survey shows that both the current conditions index (38.4) and the expectations measure (minus 48.3) fell more steeply than expected. A 5.2 point decline in current conditions was the third drop in as many months and left the sub-index at its lowest level since February 2009. However, the magnitude of the drop was less than in the previous two months. Expectations were down a similar 5.0 points, extending to eight the run of monthly declines. The slide was the smallest since May but the reading is the weakest since November 2008. The latest deterioration in economic conditions is likely tied to fears that the worsening crisis in the Eurozone may hit consumer and corporate spending as well as worries over the longer-term outlook for fiscal governance.

September producer prices were up 0.3 percent and 5.5 percent on the year. The headline index was boosted by a 0.5 percent monthly increase in energy costs and without this, prices would have edged up just 0.1 percent from August and slowed to a 3.1 percent 12-month rate from 3.3 percent last time. Consumer goods charges matched the overall monthly gain courtesy of a 0.3 percent advance in nondurables but durables were only flat alongside basics while intermediates rose a minimal 0.1 percent.

October Ifo economic sentiment edged down 106.4 from 107.5 in September. The headline dip was attributable to fresh declines in both the current and expectations components. The former was off 1.2 points to 116.7 — its fourth drop in a row — while the latter slipped 0.9 points to 97.0 for its eighth successive monthly decline. Most sectors saw some modest weakening in confidence with the exception of services which was up 0.9 points to 17.4. Morale in manufacturing eased 0.7 points to 9.7 while retail fell 0.9 points to 2.0 and wholesale, a more marked 6.7 points to 6.3. At the same time, sentiment in construction declined a relatively large 3.6 points to minus 13.6.

United Kingdom

September consumer prices were up 0.6 percent for the second consecutive month. On the year, inflation soared to 5.2 percent — the highest on record. Much as anticipated, the biggest impact came from the housing, utilities and fuel sub-sector where charges were up 3.5 percent from August, mainly in response to increases in energy tariffs. This alone was worth nearly 0.5 percentage points of the overall monthly change. The same factor should similarly boost the index, albeit to a lesser degree, in October. However, there was also a sizeable 1.2 percent increase in furniture & household equipment prices as well as a seasonal 2.3 percent jump in education costs. Transport prices however, were down 2.1 percent from August. Underlying inflation was up 0.3 percent and 3.3 percent on the year.

September retail sales volumes were up 0.6 percent both on the month and year. Excluding fuels, purchases were up 0.7 percent from August and were 0.4 percent higher on the year. The September advance was led by the non-food sector where demand jumped 1.4 percent on the month. This contrasted with a flat performance in the food sector. September was a strong period for household goods for which sales surged 3.2 percent from August and the other stores category (2.3 percent). Non-store retailing (1.0 percent) also fared well but clothing & footwear declined 0.7 percent and fuel demand was off 0.2 percent.

Asia/Pacific

China

Third quarter gross domestic product was up 9.1 percent when compared with the same quarter a year ago. On the year, GDP was up 9.5 percent in the second quarter. When compared with the previous quarter, GDP was up 2.3 percent after growing 2.4 percent in the second quarter. For the nine months through September, GDP was up 9.4 percent compared with 9.6 percent for the first six months.

September industrial production growth edged upward to 13.8 percent on the year after increasing 13.5 percent in August. For the nine months through September, output was up 14.2 percent compared to the more robust increase of 16.3 percent for the nine months in 2010. When compared with the previous month, output was up 1.2 percent.

September retail sales were up a stronger 17.7 percent on the year after increasing 17.0 percent in August. On the month, sales were up 1.35 percent. Sales for the nine months through September were up 17.0 percent in contrast with the much stronger increase of 18.3 percent for the same months in 2010.

Americas

Canada

September consumer price index was up 0.2 percent on the month. On the year, the CPI was up 3.2 percent after increasing 3.1 percent in August. The acceleration in the headline data was more than matched in the underlying indexes. The CPI excluding food & energy was 0.7 percent higher on the month and up 1.9 percent on the year, a 0.4 percentage point spurt from its mid-quarter pace. Similarly, the Bank of Canada's preferred measure climbed 0.5 percent from August, enough to lift its 12-month rate from 1.9 percent to 2.2 percent, its fastest pace since December 2008. Seasonally adjusted, the headline CPI was up 0.3 percent on the month within which transportations costs (1.0 percent) and clothing & footwear (1.0 percent) were particularly robust. Elsewhere prices were much better behaved with food gaining 0.2 percent from August and household operations, furnishings& equipment, health & personal care & recreation, education & reading charges all just edging 0.1 percent higher. There were monthly declines in both shelter (0.4 percent) and alcohol & tobacco (0.1 percent). Annual inflation was also boosted mainly by higher transportation costs which rose 7.9 percent on the year after a 7.0 percent increase in August and clothing & footwear (2.4 percent after 0.6 percent). Food & personal health care also had a small positive impact.

Bottom line

Investors focused primarily on the events in Europe as leaders tried to reach an agreement on resolving the sovereign debt crisis. But they also paid attention to the avalanche of mixed third quarter earnings reports that were released last week. U.S. economic data proved to be mixed. Both the ZEW and Ifo surveys showed that morale in Germany is slipping. And in China, third quarter growth slowed to the still robust pace of 9.1 percent on the year.

Numerous central banks meet this week including the Banks of Canada and Japan and the Reserve Banks of India and New Zealand. Only the Reserve Bank of India is expected to increase its key interest rate as it fights inflation. Japan releases its slew of economic data while Australia posts its quarterly producer and consumer price indexes. But all eyes will be on the Eurozone. Everyone will be awaiting the results of Sunday’s and Wednesday’s summit meetings as the leaders there attempt to iron out differences in containing the sovereign debt situation — at least for now.  

Looking Ahead: October 24 through October 28, 2011

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