Global Markets

Two central bankers were in the spotlight last week — Federal Reserve Chair Janet Yellen on Tuesday and Bank of England Governor Mark Carney on Wednesday. Anytime a Fed Chair speaks, be it in Congressional testimony, post FOMC press conferences or elsewhere, investors globally parse every word for clues to policy going forward. Of particular importance this time was that there was a new person at the helm of the Fed and this was the first time as Chair that Ms Yellen would be speaking. Tuesday’s testimony was before the House of Representative’s Financial Services Committee. Usually this is followed up by an appearance before the Senate’s Banking Committee. However, a major snow storm forced a cancelation and it has not yet been rescheduled at this writing. What investors came away with on Tuesday was that a smooth transition was underway, there would be no abrupt change in monetary policy and the Fed would continue to reduce its stimulus. The reduction would take place regardless of the angst in the financial markets regarding emerging economies’ ability to absorb a diminution of foreign liquidity.

On Wednesday, investors focused on Governor Carney’s comments after the BoE published its Quarterly Inflation Report. The new Quarterly Inflation Report (QIR) was supposed to be even more important than usual — in addition to offering the regular update of the Bank's economic forecasts, it was also seen providing details of a widely anticipated revision to the MPC's forward guidance framework. However, the changes that were made were quite limited.

Minutes of recent MPC meetings and comments from the members themselves have made it clear that none of the committee members favors an early increase in the Bank Rate which is currently 0.5 percent. However, with unemployment having fallen surprisingly quickly to 7.1 percent and now is just a tick above its 7.0 percent knockout threshold, the risk of a premature tightening had become very real indeed. The new QIR seeks to negate this risk.

However, the 7 percent jobless rate knockout remained. The latest QIR stresses that the decline overstates the extent to which the labour market has tightened and suggests that the current output gap is somewhere between 1.0 percent and 1.5 percent. Low wage growth is cited as evidence that inflationary pressures from this area remain light and that other indicators of spare capacity must be monitored when determining the appropriate policy stance. Moreover, the MPC revised down its estimate of the non-accelerating inflation rate of unemployment (NAIRU) from 6.5 percent previously to a range of 6.0 to 6.5 percent. The new CPI forecasts show inflation close to its 2 percent medium term target on the basis of an increase in the Bank Rate occurring in the second quarter of 2015. Elsewhere, real GDP growth is now put at 3.4 percent this year and 2.7 percent next.

The Bank of England also said that interest rates "may need to remain at low levels for some time to come." The MPC ditched its previous guidance linking interest rates to unemployment and decided to give much more information about its thinking on interest rates without giving a precise forecast. The MPC said that there was no need for any imminent rate increase. But when rates do rise they will go up on a "gradual path" and the medium term level of rates will be "materially below the 5 percent level set on average by the committee prior to the financial crisis". The MPC indicated that it thought the financial markets expectations of interest rates were reasonable by providing forecasts for inflation showing price increases close to the 2 percent target over the next three years. The MPC based the forecasts on market interest rates that remain constant until the second quarter of 2015 and rising only to 2 percent in three years time with a medium term level of rates not exceeding 3 percent. The MPC added that it would keep the stock of assets purchased under quantitative easing at £375 billion at least until it first increased interest rates.

Global Stock Market Recap

Europe and the UK

Equities ended the week on a positive note when investor sentiment was boosted from better than expected European flash fourth quarter GDP results. The results provided confirmation that the Eurozone is recovering. On the week, the FTSE was up 1.4 percent and the SMI gained 1.2 percent while the CAC and DAX added 2.6 percent and 3.9 percent respectively.

Investors continue to watch the political situation in Italy. Italian Prime Minister Enrico Letta resigned on Friday, a day after the withdrawal of support for the coalition government by his own Democratic Party. Letta submitted his resignation to President Giorgio Napolitano at the Quirinale palace on Friday. A presidential statement said Napolitano will hold consultations on Friday and Saturday to nominate Letta's successor. The President is expected to ask the ruling Democratic Party's leader Matteo Renzi to form the next government, which will be Italy's third government in a year. Letta was forced to resign after the Democratic Party national committee on Thursday called for a change in the government's leadership. It was notable that the financial markets took the latest Italian turmoil in stride. While there was some volatility during the week, the MIB gained 3.8 percent.

Asia Pacific

Most equities advanced last week — the exception was those in Japan. Japanese equities continue to gyrate with the value of the yen against the U.S. dollar — when the yen increases, stocks generally decline. Weekly gains ranged from 3.5 percent and 3.1 percent for the Shanghai Composite and Hang Seng respectively to the Nikkei’s decline of 1.0 percent. All of the Nikkei’s retreat occurred on Friday. Markets here react to U.S. events the next global day since they are closed when U.S. markets are open.

On Thursday, stocks fell broadly as investors digested mixed earnings reports and awaited more clarity on global growth before putting money into riskier assets. Specifically, investors were waiting for U.S. data on weekly jobless claims and retail sales. However, they were also waiting for new inflation data from China which were due Friday local time.

The week's gains suggest that the fear which prompted a global selloff earlier this month has dissipated. Many stock markets in emerging economies advanced in the past week. International problems have not yet caused the bank runs and large scale flight of international investors that made previous crises so severe. Central banks in emerging markets have gone out of their way to accumulate rainy-day funds of dollars and other foreign currencies. With the conspicuous exception of China, bank regulators in emerging markets have also imposed tougher lending regulations and kept shadow banking operations on tight leashes.

India and Indonesia suffered large declines in their currencies and stock markets during last summer and lasting through early autumn after former Fed Chair Ben Bernanke indicated in May that the Fed would start easing back on measures that helped keep longer term rates at historically low levels. Both India and Indonesia have since sharply narrowed the deficits in their current accounts, a broad measure of trade and financing. They allowed significant depreciation in their currencies last summer which made imports more expensive and their exports more competitive. As a result, both countries have less need of further foreign investment in their financial markets, although they could still be hurt if overseas investors withdraw money that they had already put in. Political troubles have played a role in market declines — most notably in Thailand — where Bangkok has been clogged with demonstrators for weeks.

Currencies

The U.S. dollar declined against all of its major counterparts last week to its weakest level in almost a month after U.S. industrial production unexpectedly declined in January by the most since May 2009. This added to evidence that the severe winter weather is weighing on U.S. economic growth. The weaker data have forecasters rethinking their growth estimates for the first quarter of 2014 and those of the fourth quarter of 2013. Most analysts attribute the deterioration in economic data to the severe winter weather that has plagued a good chunk of the country.

The pound sterling reached an almost three year high against the dollar on better than forecast construction output. The euro also advanced against the dollar after the flash gross domestic product estimates for the fourth quarter showed that the region’s economy grew more than expected, adding to signs the economic recovery is gathering pace.

The Australian dollar advanced against the U.S. currency after China’s January consumer price index increased 2.5 percent from a year earlier. The currency had retreated mid-week after Australia’s labour force report said that employment declined and the unemployment rate increased to its highest in a decade in January. This turned investors’ focus back to the problems of its manufacturing sector. Analysts opined that the labour market continues to reflect the ongoing changes in the Australian economy. The ending of the mining sector boom generated layoffs while the other sectors of the economy are struggling to compensate for these job losses.

After a year-long slide, the Australian dollar had rallied since the start of the month, after the Reserve Bank of Australia signaled an end to a two year easing cycle. The central bank also changed its view on the exchange rate, apparently deciding the Aussie was no longer overvalued and saying that if its recent decline were sustained, it would assist in achieving balanced growth.

Selected currencies — weekly results

Indicator scoreboard

EMU

December industrial production (excluding construction) dropped 0.7 percent on the month after a downwardly revised, but still robust, 1.6 percent increase in November. Annual workday adjusted growth slowed from 2.8 percent to just 0.5 percent and so reversed all of the previous period's acceleration. December's poor showing was largely attributable to a 2.1 percent monthly slump in capital goods output while nondurable consumer goods slipped 0.1 percent and energy was off 2.1 percent. Elsewhere the news was rather better with intermediates up 0.9 percent and durable consumer goods 0.4 percent. Monthly declines in output were registered in all reporting EMU states except Greece (2.6 percent), Slovenia (2.7 percent) and Portugal (0.7 percent). Among the larger members, Germany posted a 0.7 percent drop while France was down 0.3 percent, Italy 0.9 percent and Spain 0.2 percent.

Fourth quarter flash gross domestic product was up 0.3 percent on the quarter and was up 0.5 percent when compared with the same quarter a year ago. This was the first positive annual reading since the fourth quarter of 2011. No GDP components were made available as is usual with the flash report but the likelihood is that both domestic demand and net foreign trade helped to support headline growth. Regionally there was moderately good news out of the larger four states with all seeing some acceleration in quarterly growth. The French economy posted a 0.3 percent gain in line with Spain while Germany was up 0.4 percent and Italy 0.1 percent. Elsewhere most states also recorded quarterly increases in output, notably Latvia and the Netherlands (both 0.7 percent) and Portugal (0.5 percent). The only quarterly declines were in Cyprus (1.0 percent), where recession remains firmly entrenched, Finland (0.8 percent) which is now back in technical recession and Estonia (0.1 percent).

Germany

Fourth quarter flash gross domestic product was up 0.4 percent on the quarter and up 1.4 percent from the same quarter a year ago. As usual no details of the GDP expenditure components were provided in today's flash announcement. However, it did allude to a disappointing performance by domestic demand with consumer demand slightly negative and government spending only flat. Fixed investment was up in construction and equipment but declined in intermediate goods. Rather, it looks as if the advance in total output last quarter was largely due to an improvement in net foreign trade, thanks to a sharp increase in exports.

France

Fourth quarter gross domestic product was up 0.3 percent on the quarter and 0.8 percent from the same quarter a year ago. The latter was its best performance since the fourth quarter of 2011. Household consumption, which was up 0.5 percent on the quarter following a meagre 0.1 percent advance in the previous period, was the main driving force. However, gross fixed capital formation retuned to positive growth (0.6 percent after declining 0.3 percent) within which spending by non-financial incorporated and unincorporated enterprises climbed 0.9 percent. Government consumption was up 0.4 percent. As a result, final domestic sales added a solid enough 0.5 percentage points to the quarterly increase in total output. Inventories, which flattered GDP by 0.6 percentage points in the third quarter, subtracted 0.3 percentage points this time round. With exports 1.2 percent stronger and imports only 0.5 percent higher, net exports provided a 0.2 percentage point lift having subtracted an unusually large 0.7 percentage points in the third quarter.

Italy

Fourth quarter gross domestic product edged up 0.1 percent on the quarter and was down an annual workday adjusted 0.8 percent. This was the smallest annual contraction since the fourth quarter of 2011. For the calendar year, GDP declined 1.9 percent following a 2.5 percent drop in 2012. No details of the GDP expenditure components were made available but Istat did indicate that what limited growth there was came courtesy of advances in agriculture and manufacturing. Services were flat.

Asia/Pacific

Japan

December private sector machine orders, excluding volatile ones for ships and those from electric power companies, plunged a seasonally adjusted 15.7 percent but were up 3.3 percent from a year ago. The total value of machinery orders received by 280 manufacturers operating in Japan decreased 3.1 percent in December from the previous month. In the October through December period, orders decreased by 0.2 percent compared with the previous quarter. Manufacturing orders dropped 17.3 percent while nonmanufacturing orders excluding volatile ones sank 17.2 percent. However, overseas orders jumped 8.6 percent after sliding 12.2 percent in November.

December tertiary industry index was down 0.4 percent on the month and up 0.4 percent from December 2012. Among the industries that declined were wholesale & retail trade (down 1.2 percent), transport & postal activities (down 1.2 percent), finance & insurance (down 0.7 percent) and real estate & goods rental & leasing (down 0.4 percent). Living-related & personal services & amusement services, accommodations, eating & drinking services, learning support and electricity, gas, heat supply & water also declined on the month. However, information & communications (up 1.4 percent), medical, health care & welfare (up 0.2 percent) and scientific research, professional & technical services (up 0.3 percent) advanced on the month.

January corporate goods price index was up 0.1 percent on the month and 2.4 percent from a year ago. The CGPI was up for the 10th consecutive month when compared with the previous year. Among the major subcategories, lumber & wood products were up 14.4 percent on the year, petroleum & coal products were up 10.7 percent and iron & steel were up 5.9 percent. These prices have probably been affected by the falling value of the yen. Among the subcategories that saw continued price declines were information & communications equipment (down 4.3 percent from a year ago), electronic components & devices (down 1.8 percent) and production machinery (down 0.8 percent).

Australia

January employment disappointed and was down 3,700 to 11,459,500. Employment was expected to increase by 15,000. The decline in employment was due to a decline of 7,100 in full time employment to 7,953,000, offset by increased part time employment, up 3,400 to 3,506,500. The decrease in total employment was driven by declines in male and female full time employment and female part time employment. The unemployment rate increased 0.1 percentage points to 6.0 percent in January for the highest unemployment rate since July 2003. The number of people unemployed increased by 16,600 people to 728,600. The seasonally adjusted labour force participation rate was unchanged at 64.5 percent in January.

China

January merchandise trade surplus was $31.86 billion, up from December’s $25.64 billion. The trade surplus was the widest for January since 2009. Exports were up 10.6 percent from January 2013 after increasing 4.3 percent the month before while imports were 10.0 percent higher after an increase of 8.3 percent. The comparison with year-earlier figures is distorted because of false invoices to disguise capital flows in 2013 and the different timing of the weeklong Lunar New Year holiday. On a seasonally adjusted basis, exports were down 3.5 percent on the month while imports were 4.5 percent lower. On the year, adjusted exports and imports were up 9.4 percent and 9.3 percent respectively. China’s trade surplus with the U.S. was $11.30 billion, down from $17.84 billion in December. Exports dropped 32.3 percent on the year while imports sank 29.8 percent. China’s trade surplus with Japan was $59.55 billion. However, both exports and imports dropped 29.0 percent and 35.5 percent. China’s trade deficit with the European Union was $24.96 billion with exports and imports down 27.1 percent and down 28.6 percent respectively.

January consumer prices were up a larger than expected 2.5 percent for a second month from a year ago. Expectations were for an increase of 2.3 percent. On the month, the CPI was up 1.0 percent after increasing a muted 0.3 percent in December. The urban CPI was up 2.6 percent after rising 2.5 percent while the rural increased 2.2 percent after increasing 2.5 percent in December. Food prices continued to ease. They were up 3.7 percent after rising 4.1 percent in December and 5.9 percent in November. Non-food prices were up 1.9 percent after increasing 1.7 percent the month before. Clothing prices also eased. They were up 1.9 percent after a 2.1 percent increase in December. Transportation & communication prices were up 0.2 percent after declining for the preceding four months.

January producer prices were down 1.6 percent after declining 1.4 percent in the two prior months. On the month, the PPI slipped 0.1 percent after remaining unchanged in the prior three months. Of the major subcategories, only clothing & related products (up 0.7 percent) were higher from a year ago. Production materials were 2.0 percent lower than a year ago while mining & exploration dropped 4.0 percent. Consumer goods were down 0.3 percent after recording no change the month before. Ferrous metals were down 2.9 percent while non-ferrous metals dropped 6.0 percent.

Bottom line

Focus in the past week was on Fed Chair Janet Yellen’s Congressional testimony and the new Quarterly Inflation Report from the Bank of England. Investors applauded the better than anticipated growth data from Europe while at the same time tried to figure out just how much of the softening of U.S. economic data was really weather related.

The Bank of Japan meets in the upcoming week. While other central banks in developing countries are looking to cut back on stimulus, the BoJ will be looking to increase theirs as the April sales tax increase deadline nears. Flash PMI indexes for the Eurozone, China and the U.S. will also attract investor attention.

Looking Ahead: February 17 through February 21, 2014

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