Global Markets

The Federal Reserve is still capable of surprising the financial markets. The Bank’s FOMC meeting dominated the week’s news — first in anticipation, then in the reality of the results which did not jibe with expectations. Markets, which had built in expectations of a curtailment in bond purchases, gyrated with equities rallying but only briefly as the euphoria quickly ebbed.  Earlier in the week on Monday, global equities celebrated the withdrawal of Larry Summers’ candidacy to replace Fed Chairman Ben Bernanke when his term expires at the end of January 2014. All equity indexes advanced with the exception of the Shanghai Composite.

Global Stock Market Recap

Europe and the UK

European equities advanced for a third consecutive week. The FTSE edged up 0.2 percent, the SMI was up 0.8 percent and the CAC gained 2.2 percent. In pre-election trading, the DAX was 2.0 percent higher. However, on Friday, investors were reluctant to take positions ahead of the German national elections which take place on Sunday, September 22.

Like trading elsewhere, markets pivoted on what the Fed did and said Wednesday. Now in the aftermath of the meeting, attention has slewed to FedSpeak and what FOMC members will say by way of explanation. On Friday for example, St. Louis Fed President James Bullard said the Federal Reserve could begin to taper its bond buying program in October if the economy continues to improve. Bullard hinted that Fed officials were divided on whether to scale back the $85 billion per month asset purchase plan. He noted that it was a close decision. Bullard said that economic reports over the next month may lead the Federal Open Market Committee to cut its monthly purchases of Treasuries or mortgage bonds when it next meets on October 29 and 30.

Swiss National Bank

The Swiss National Bank met Thursday and as expected, it made no changes to key interest rates in its Monetary Policy Assessment and once again reiterated the importance of defending the CHF1.20 mark against the euro. Accordingly, the objective range for 3-month CHF Libor remains zero to 0.25 percent and the point target at zero. The SNB also re-emphasized its willingness to buy foreign currencies in whatever amounts needed to meet its exchange rate goal.  

Thanks to a surprisingly robust second quarter ((0.5 percent) the Bank upgraded its GDP growth forecast for this year from the 1.0 to 1.5 percent made in July to 1.5 to 2.0 percent. However, it essentially left inflation projections untouched at minus 0.2 percent in 2013, 0.3 percent in 2014 and 0.7 percent in 2015 and explicitly acknowledged the absence of any inflation risks.

Worries about a potentially overheating mortgage market have not gone away but some easing in lending growth over the first half of the year and slower house price growth in some areas were noted as optimistic signs. However, the SNB also signaled that it would continue to monitor the real estate market very closely.

Asia Pacific

All equity indexes were up last week with the exception of the Shanghai Composite which lost 2.0 percent in its three-day holiday shortened week. With markets in this region already closed for the global market day prior to the FOMC announcement and Bernanke’s press conference, investors here could not react until Thursday when they rallied. However, the positive reaction was short-lived. Markets that were not on holiday on Friday sagged reflecting investors’ uncertainty over Federal Reserve plans as the unexpected decision to maintain the status quo on its bond buying programs and its downbeat economic assessment sparked confusion about the timing and the scale of any pull-back.

Emerging markets celebrated after the Fed left its bond buying programs unchanged. Pressures had built on many of them as investors shifted focus to the U.S. and withdrew funds from countries such as Indonesia and India for example. Their currencies dropped and so did their growth expectations.

The SET soared 6.1 percent followed by the Jakarta Composite which was up 4.8 percent and the PSEi which was right behind with a gain of 4.7 percent for the week. The Sensex jumped 2.7 percent.

Reserve Bank of India

On Friday, Reserve Bank of India Governor Raghuram Rajan surprised markets in his initial policy review by increasing interest rates to ward off rising inflation, while scaling back some of the emergency measures recently put in place to support the ailing rupee. The policy repo and reverse repo rates were unexpectedly increased 25 basis points to 7.5 percent and 6.5 percent respectively while the rate on the marginal standing facility (MSF) was reduced by 75 basis points to 9.5 percent. The changes thus reduce the official interest rate corridor from 400 basis points to 300 basis points. The RBI also announced a reduction in the minimum daily maintenance of the cash reserve ratio (CRR) from 99 percent of the requirement to 95 percent while keeping the CRR unchanged at 4.0 percent

The realignment reflects the RBI's desire to begin normalizing its interest rate structure following the distortions caused by the earlier run on the rupee. The easing in pressures on the currency — the rupee hit a 5-week high against the dollar following Wednesday's FOMC announcement — facilitated, as a first step, the cut in the MSF rate which in recent months has essentially replaced the repo as the operational policy rate. But in the wake of the slide in the rupee, the Bank still felt obliged to increase the repo rate 25 basis points in order to anchor inflation and inflation expectations.

The RBI's monetary policy continues to face a difficult juggling act in trying to contain inflation, boost economic growth and restore international confidence in the rupee. Still, the RBI’s moves suggest that the Bank feels that the worst of its policy dilemma is over in which case a further cautious readjustment of official interest rates is probable over coming months. However, the scope for any further changes will very much depend upon how the financial markets react.

The rupee fell as much as 20 percent this year to a record low in late August as investors pulled money from emerging markets ahead of an expected move by the Fed to begin scaling back its massive stimulus. It has recovered some of those losses since Rajan took over at the RBI amid high expectations on September 4, gaining about 9 percent through Thursday. The Fed's surprise move to forge ahead with its easy money policy gave Rajan extra space to roll back some of the steps imposed to bolster a currency that had been the worst performer in Asia, dragged down by investor worries over the country's record current account deficit.

Currencies

The U.S. dollar declined against its major counterparts (except the yen) after the FOMC chose to defer plans to curtail its bond buying programs. However, Asian currencies rallied in the week by the most in a year. Malaysia’s ringgit and Thailand’s baht led the advance. The Malaysian currency posted its biggest weekly gain since the 1998 Asian financial crisis. The U.S. is Malaysia’s fourth largest overseas market. India’s rupee and Indonesia’s rupiah are the worst performing Asian currencies so far this year after the yen, with losses of 12 percent and 15 percent, respectively, as investors fled nations with worsening current account deficits.

The emerging economies facing the biggest challenges in recent months have been wrestling with broadly measured trade deficits equal to several percent or more of their annual output. They have relied until now on foreign investment to pay for these deficits as well as to finance interest payments on foreign borrowing, making them especially vulnerable to capital outflows that have reached tens of billions of dollars over the summer. Falling emerging market currencies have also driven up the cost of commodities like oil that are priced in dollars.

Selected currencies — weekly results

Indicator scoreboard

EMU

August harmonized index of consumer prices was up 0.1 percent and 1.3 percent from a year ago. Excluding food, drink, tobacco & energy, the index was up 1.1 percent on the year which is unchanged from its rate at the start of the quarter. The other underlying measures were similarly subdued with prices excluding just seasonal food and energy matching July's 1.4 percent 12-month rate and the excluding unprocessed food and energy gauge steady at 1.3 percent. Regionally, annual inflation rates declined in most states and, at minus 1.0 percent, moved deeper into negative territory in Greece where prices have not risen on the year since August. Ireland (0.0 percent) and Portugal (0.2 percent) are also in danger of falling below zero. At the other end of the ladder was Estonia (3.6 percent) although even here the rate was down 0.3 percentage points from July and 0.6 percentage points below its August peak.

July seasonally adjusted merchandise trade surplus was €11.1 billion surplus following a slightly smaller revised €13.5 billion excess in June. The unadjusted data put the black ink at €18.2 billion, up from €13.9 billion in the year ago period. The deterioration in the adjusted headline data reflected a 1.6 percent monthly slide in exports, which hit their second lowest level of the year and was only partially offset by a 0.1 percent dip in imports. Compared with July 2012, exports were 3.0 percent firmer while imports were only unchanged.

Germany

August ZEW current conditions index rose a solid 12.3 points to 30.6, its largest increase since October 2010 and its highest reading since June 2012. This measure has now risen for three consecutive months. At the same time, expectations advanced 7.6 points to 49.6, their strongest gain since February and the highest level since April 2010. This gauge is now 67.8 points above its year ago level. ZEW attributed the more optimistic picture to fewer worries about the Eurozone economy and ongoing signs of recovery in Germany.

United Kingdom

August consumer price index was up 0.4 percent on the month and 2.7 percent from a year ago. The 12-month rate eased from 2.8 percent in July and was largely due to the transport sector where a 1.0 percent monthly increase in prices compared favorably with a 1.3 percent advance in August 2012. In turn this was mainly attributable to a more subdued gain in petrol costs this time around. There was also a negative impact from clothing & footwear where new fashion lines saw a 2.0 percent monthly increase, short of the 2.8 percent jump a year ago. However, furniture, household equipment & maintenance posted a 1.8 percent monthly jump, a full percentage point more than last August, and there were smaller positive effects from recreation & culture and food & non-alcoholic drinks. The core CPI matched the headline 0.4 percent monthly gain and, at 2.0 percent, the underlying annual inflation rate was unchanged from its July's level.

August factory gate prices edged up 0.1 percent on the month and were 1.6 percent higher on the year. This was a 0.5 percentage point drop from its July rate and its slowest pace since May. Most sub-sectors saw just minor changes in prices on the month, the only real exceptions being chemicals & pharmaceuticals (0.4 percent) and petroleum products (0.5 percent). Core output prices were flat on the month and 1.0 percent firmer than in August 2012. Input costs were down 0.2 percent from July, their first decline since May. This left the index 2.8 percent higher on the year. Most categories saw costs slide on the month. Home food materials (1.2 percent), imported food materials (1.1 percent) and imported metals (1.4 percent) led the way and the overall change would have been much more negative but for a 1.2 percent spurt in crude oil.

August retail sales volumes dropped 0.9 percent on the month but were up 2.1 percent on the year. Excluding auto fuel the story was much the same with volumes down 1.0 percent from the start of the quarter and 2.3 percent above their year ago level. However, in the same way that it boosted sales in July, the food sector was largely responsible for the poor August figures. Food stores dropped 2.7 percent on the month and masked a 0.4 percent gain in (ex-fuel) non-food sales. Within the latter, non-specialized stores (1.0 percent) and clothing & footwear (1.1 percent) had a very good month and both non-store retailing (0.8 percent) and the other stores category (0.5 percent) fared well. On the downside, household goods were off 1.6 percent and fuel was down 0.6 percent.

Asia/Pacific

Japan

August unadjusted merchandise trade deficit was ¥960.3 billion. Exports were up 14.7 percent on the year while imports jumped 16.0 percent. Exports to Asia were up 13.5 percent on the year for the sixth consecutive increase. Exports to China were up 15.8 percent for the fifth increase in a row. Exports to the EU jumped 18.0 percent while those to the U.S. were up 20.6 percent. Exports were up for a third month to the EU and for the eighth straight month to the U.S. On a seasonally adjusted basis, the August merchandise trade deficit was ¥791.4 billion, compared with July's ¥911.1 billion deficit. The seasonally adjusted balance has been in deficit since March 2011, the month of the devastating earthquake and tsunami. Exports were up 2.2 percent on the month and 14.9 percent from a year ago. Imports edged up 0.1 percent and were up 18.0 percent on the year.

Americas

Canada

July manufacturing sales were up 1.7 percent after slipping 0.1 percent the month before. Compared with a year ago, shipments were down just 0.1 percent after a 2.8 percent drop in June. Volumes climbed 1.1 percent from the end of the second quarter. Among the 21 reporting industries, 15 posted nominal monthly gains. Petroleum & coal, up 2.4 percent, did much to boost the headline change and miscellaneous manufacturing (23.9 percent) was especially robust, although the increase here essentially just offset the previous period's decline. Fabricated metals advanced 5.9 percent and wood products 6.3 percent. On the downside, partial offsets were provided by declines in primary metals (2.6 percent), clothing (1.0 percent) and food (0.3 percent). Elsewhere in the survey the news was mixed. While unfilled orders were up a monthly 0.4 percent, their fourth consecutive increase, new demand was off 1.7 percent and inventories were up 0.4 percent. The inventory/sales ratio held steady at 1.40 months but this was still 0.04 months above its year ago level.

August consumer price index was unchanged on the month and up 1.1 percent from a year ago. Excluding food and energy prices, the CPI also was unchanged on the month and up 0.9 percent on the year. Similarly, BoC's preferred index which excludes eight volatile items advanced 0.2 percent from July and was up 1.3 percent on the year. Seasonally adjusted, the CPI edged only 0.1 percent firmer on the month. Within the adjusted basket the only increases of note were shelter (0.4 percent) and recreation, education & reading (0.3 percent). Clothing & footwear gained 0.2 percent but elsewhere prices were weak and there were declines in alcohol & tobacco (0.1 percent) and household operations, furnishings & equipment (0.2 percent).

Bottom line

In a tumultuous week, the Federal Reserve decided to wait before curtailing its bond purchase programs. Economic data have been somewhat disappointing, the labour market has not improved as much as anticipated and the fiscal mess has been draining U.S. growth. Elsewhere, the Reserve Bank of India increased its main policy interest rates to ward off inflation and increase the value of the rupee.

Flash PMIs for September will be posted Monday and will give a progress report on a recovering European economy. Also on the calendar is the important September reading of the German Ifo survey. And a plethora of FedSpeak is on tap for the week.

Looking Ahead: September 23 through September 27, 2013

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