Monday, September 12, 2005
Four central bank meetings produce one policy change
The Banks of Japan, England and Canada along with the Reserve Bank of Australia met last week. Only the Bank of Canada changed its policy - it lifted its key interest rate by 25 basis points to 2.75 percent. The increase in the target rate for overnight loans between commercial banks is the first since October, 2004 and it narrows the gap between U.S. and Canadian interest rates to 75 basis points. In its statement the Bank dropped in a phrase on the need for further rate increases in response to Hurricane Katrina saying the storm could dent U.S. demand for Canadian goods. This acknowledges the continuing close ties between the two economies. The Bank also said that its economy was operating close to capacity and monetary policy continued to be stimulative. Indeed, second quarter capacity utilization was 86.7 percent. The Bank of Canada has an inflation target range of 1 to 3 percent, but it focuses on the 2 percent mid-point.
Reserve Bank of Australia maintains status quo
The Reserve Bank of Australia kept interest rates unchanged for a sixth month after retail sales stalled, borrowing had the smallest gain in three years and the inflation rate slowed. Governor Ian Macfarlane and the Reserve Bank Board left the overnight cash rate target at 5.5 percent. The RBA does not release a statement when policy is unchanged. The governor said three weeks ago he saw no need to alter borrowing costs given an inflation rate of 2.5 percent and cooling consumer spending and housing. The economy is suffering under the weight of record high fuel prices along with falling house prices. The average price of unleaded gasoline in Australia rose to A$1.24 a liter in the week ended September 4th, an increase of 30 percent from the start of the year, according to the Australian Institute of Petroleum. Governor Macfarlane has been counting on increased business spending and rising exports, fueled by record commodity prices, to foster economic growth and offset slower domestic demand. Government reports released in the past week suggest this could be happening. The RBA has an inflation target range of 2 to 3 percent and focuses on the mid-point.
Bank of England rests after August's rate cut
The Bank of England kept its key interest rate unchanged at 4.5 percent after lowering rates by 25 basis points in August. Climbing energy costs pushed their inflation measure above the Bank's 2 percent target in July. The Monetary Policy Committee was split last month as they voted 5 to 4 to lower rates as stagnating home prices curbed consumer spending. The majority favored lowering rates on concern about risks to consumer spending and record levels of household debt. Governor Mervyn King was in the minority, arguing that lowering borrowing costs at a time of rising energy prices may send consumer prices higher. The dissenters also said that the economy was operating close to full capacity and was likely to be supported by continuing world-wide economic growth. Consumer spending accounts for two-thirds of the economy and has supported 52 consecutive quarters of economic growth. The BoE increased rates five times between November 2003 and August 2004 to prevent annual increases in house prices of as much as 20 percent from fueling inflation.
Bank of Japan - no policy change but optimistic on future
The Bank of Japan left its monetary policy unchanged. Policy interest rates remain close to zero while the Bank continued to target the reserves it makes available to lenders at between ¥30 trillion ($268 billion) and ¥35 trillion. The vote was 7 to 2 to keep policy unchanged. The central bank adopted its so-called "quantitative easing" policy of infusing cash into the economy and holding interest rates at almost zero in March 2001. BoJ Governor Toshihiko Fukui has vowed to maintain the policy until consumer prices stop falling and monetary policy board members are certain they won't resume their slide. Core prices, which exclude fresh food, have risen in just one month since April 1998.
There are signs that Japan's economic recovery is being supported by a rebound in exports and spending by companies and consumers according to Bank of Japan Governor Toshihiko Fukui. At his press conference following the monetary board's meeting he said that the recovery is relatively well-balanced, supported by domestic and foreign demand. He also said that he expects core consumer prices to stop falling or start to rise at the end of this year. Fukui also said that at this stage it is impossible to say how long the bank would maintain its zero interest rate policy after quitting quantitative easing. In addition to prices, Fukui also said that they would monitor the sustainability of the recovery to determine when it would be appropriate to modify policy. The Bank of Japan, like the Federal Reserve, does not have an inflation target.
Global Markets
Global markets were mixed last week as investors continued to assess the damage to the world economy posed by Hurricane Katrina. Since the U.S. is still considered the engine of growth in export-dominated economies, these countries watched intently as U.S. growth estimates for the third and fourth quarters were revised downward. This was not the only consideration. The dislocations in the energy market accompanied by the spikes in prices are bound to have a negative impact on domestic demand as well. Political events also distracted investors as voters go to the polls in Japan on Sunday, September 11th and in Germany, the following week.
Crude oil prices eased last week as producers ramped up production to replace output from the Gulf of Mexico where wells began to come on stream once again. Additional reserves were also made available from the strategic petroleum reserves in both the U.S. and Europe. However, the Gulf Coast refineries have been slower to begin production, with many out of commission for months to come as damages are assessed. Indeed, now the question is where additional crude will be processed should refinery repairs stretch out for several months.
Global Stock Market Recap
Europe and Britain
The FTSE, CAC and DAX registered gains last week thanks to mobile phone and semiconductor company stocks. They were up after Texas Instruments raised its profit forecast and Intel said sales would reach a record. Oil company equities, lifted by the rise in oil, also helped push the indexes higher. Investors speculated that oil prices could remain high or might keep rising on the possibility that crude oil and refined products output could take months to recover.
The DAX finally did it. After hovering for several days, it managed to end the week above the 5,000 mark. The index, which last closed above that level in May 2002, touched a peak of 5,020.47 in Friday morning trade but subsequently subsided to its 5005.9 close. The DAX has increased by 14.8 percent since Prime Minister Gerhard Schroeder triggered a national election (scheduled for September 18th) by a no confidence vote in parliament on May 22nd.
Asia/Pacific
Both the Topix and Nikkei showed pre-election strains as investors tried to position themselves before Sunday's snap lower house of parliament election. Prime Minister Junichiro Koizumi made the election a referendum on his plan to transfer the management of Japan Post's ¥350 trillion in assets from bureaucrats into the hands of private companies. Polls indicate that Koizumi's Liberal Democratic Party will probably win a majority, allowing it to govern without coalition support. The Nikkei has rallied 7.8 percent in the month since Prime Minister Junichiro Koizumi called for elections, aiming to bolster his mandate and oust legislators within his own ruling party opposed to his plan to sell the state-run postal system.
On Friday, Japanese stock indexes climbed to four-year highs in the heaviest trading in the 56-year history of the Tokyo Stock Exchange. In the last trading day before the elections, the benchmarks closed at the highest since July 3, 2001. Some ¥3.14 trillion ($28.4 billion) in shares changed hands on the Tokyo Stock Exchange's first section, the first time the value topped ¥3 trillion and the most since trading started in May 1949, according to the exchange. The previous record was set in Feb. 23, 1989, the year when the Nikkei and Topix both reached all-time highs.
Foreign investors boosted their Japanese stock buying to a record ¥1,962 billion in August as confidence in the country's recovery continues to improve. Overseas investors (including funds) have been net buyers for 15 successive months.
Currencies
Dollar trading was affected last week as traders debated whether the Federal Reserve would continue to increase interest rates at a measured pace or pause to assess the damage of Hurricane Katrina on the U.S. economy. But comments by San Francisco Fed President Janet Yellen, who said that monetary policy had little scope to cushion the immediate economic fallout from such a severe and sudden blow to a region, swayed opinion and on Friday, traders seemed to think that the Fed would continue to increase rates when they meet on September 20th and the dollar was up as a result.
The yen traded within a relatively narrow range as investors hunkered down and awaited Sunday's election results. The yen was up on Friday as traders welcomed signs that reform-minded Koizumi is likely to sweep back into power. The yen also felt the brunt of high crude prices. Japan imports virtually all its fossil fuel, and obviously benefits from any retreat in oil prices. Economic data also supported the yen as second quarter spending on plant and equipment jumped 7.3 percent on the year.
One important element in Bank of Canada policy is the relative value of the Canadian dollar particularly against its U.S. counterpart. The currency has been rising against the U.S. dollar since the beginning of 2003. The Canadian dollar is considered an emerging petro-currency given its vast energy productive potential. Extraction technology that can produce crude oil from Western Canada's vast tar sands is finally feasible and about $100 billion of spending in the energy sector is planned. Canada, a net energy exporter, has both a balance of payments surplus and a current account surplus. One element that could be keeping a lid on the Canadian dollar is the interest rate differential between Canada and the United States. Official rates in Canada are 75 basis points lower.
Indicator scoreboard
EMU - August service sector business activity index edged lower to 53.3 from 53.5 reading in July. Wide variations in business activity trends were evident among euro member countries. Of the big-four member countries, the worst performance was Italy for the fifth successive month, where services activity contracted for the fourth time in the past five months. By contrast, the strongest growth was seen in France for the eleventh month in a row. A reading of above 50 signals growth while a reading below 50 signals contraction. The index is prepared by NTC Research of London.
July real workday and seasonally adjusted retail sales were down 0.5 percent and up 0.1 percent when compared with last year. Food, drinks and tobacco sales slumped 0.7 percent and non-food sales were down 0.2 percent.
Germany - July real seasonally adjusted manufacturing orders were up 3.7 percent and 7.6 percent when compared with last year. The jump was attributed to large foreign bulk capital and basic goods orders. Domestic orders were down 0.1 percent while foreign orders soared by 7.7 percent. Capital goods orders climbed by 3.7 percent - foreign capital orders leaped by 10.1 percent while domestic orders sank by 4.1 percent.
July seasonally adjusted industrial production was up 1.2 percent and 3.6 percent when compared with last year. Manufacturing output was up 1.2 percent and construction was up 0.1 percent. Energy production ebbed downward by 0.1 percent.
July seasonally adjusted merchandise trade surplus was €13.1 billion, down from €14.6 billion in June. Imports were up 3.7 percent while exports increased by 0.5 percent. Imports were up thanks to the rising prices of crude oil.
France - July industrial production plummeted by 0.9 percent and was down 0.7 percent when compared with last year. Manufacturing production sank 1.2 percent. Production of components including minerals, plastic and computer chips dropped 2 percent while auto production receded by 0.6 percent. Production of consumer goods, including pharmaceuticals, skidded by 0.4 percent and production of capital goods declined 0.9 percent.
Italy - Second quarter gross domestic product was up 0.7 percent and 0.1 percent when compared with the same quarter a year ago. Domestic demand was up 0.6 percent and 1.2 percent on the year. Capital investment rebounded by 1.5 percent after sinking 1.2 percent in the previous quarter. On the year, capital investment was 2.1 percent below the same quarter in 2004.
Britain - July industrial output declined by 0.3 percent and was down 1.6 percent when compared with last year. Manufacturing output was up 0.1 percent and 0.2 percent on the year. Six of the thirteen subsectors increased output and seven declined. The only significant increase occurred in the transport equipment sub-sector, which was up 2 percent due to an 8.4 percent increase in motor vehicles. Mining and quarrying output decreased by 3.0 percent, while energy supply output decreased by 0.7 percent. Within mining and quarrying the outputs of the oil extraction, gas extraction and coal mining industries all decreased significantly during the month.
July world merchandise trade deficit soared to Stg5.1 billion from Stg4.167 billion in June. The main reason was a significant widening in the non-EU trade gap due to a sharp decline in exports. The non-EU trade deficit rose to Stg2.521 billion from Stg1.41 billion in June. Exports fell 10.1 percent while imports rose 2.5 percent. ONS said that recent estimates of trade fraud were still having a distortionary impact on the figures.
Asia
Australia - Second quarter gross domestic product was up 1.3 percent and 2.6 percent when compared with last year. Business investment was up 6.8 percent in the quarter and mining production was up 1.1 percent. Non-residential construction increased 8.4 percent in the quarter. The household-spending implicit price deflator was up 2.5 percent from a year earlier.
August employment was up by 32,600 jobs while the unemployment rate remained at a 29-year-low of 5 percent. Full-time employment rose 16,100 and part-time positions increased 16,500. The participation rate rose to a record 64.8 percent from 64.6 percent in July. The wage price index, which measures hourly rates of pay excluding bonuses, rose 4 percent in the second quarter from a year earlier, the largest increase since the statistics bureau began compiling the series in 1997.
Americas
Canada - August employment was up by 27,500 jobs while the unemployment rate remained at 6.8 percent for the second month. Full-time employment increased by 35,500 but part-time employment was down by 8,100 jobs. Manufacturing employment declined by 8,500 jobs to 2.2 million and in information, culture & recreation by 18,000 jobs.
Bottom line
Equities have put a positive spin on both the Japanese and German elections scheduled for September 11th and 18th respectively. Investors think that Prime Minister Koizumi will retain power while Chancellor Schroeder could be ousted. The results in Germany look more uncertain at this writing than those in Japan. Investors are hoping that the pro-reform Angela Merkel will displace Gerhard Schroeder as chancellor; but there is considerable uncertainty about whether her Christian Democratic Union party and its ally, the liberal Free Democrats, will achieve an overall majority. This could lead to a grand coalition between the CDU and Schroeder's Social Democrats, recent opinion polls have suggested.
Meanwhile, investors will try to decipher the continuing fallout from Katrina on the Gulf refineries and by extension, the U.S. economy. The emerging consensus is that the economic damage inflicted by the hurricane will reduce growth by somewhere around 0.5 percent in the remaining months of this year. Given the consensus forecast for 2005 as it stood before the hurricane, this still leaves growth for the year in the region of 3.25 percent. A key unknown is what the FOMC will do when it meets on September 20th. Will they pause after 10 consecutive increases because of concern about the growth outlook and high oil prices' Anecdotal evidence is showing that people are shifting to public transportation to avoid paying higher gasoline prices.
Looking Ahead: September 12 through September 16, 2005
A plethora of central bank meetings