Global Markets

Investors were stunned Thursday morning when two central banks made surprise policy moves between regularly scheduled announcements. The Reserve Bank of India cut its policy interest rate by 25 basis points to 7.75 percent just two weeks before its regularly scheduled meeting and set off expectations of more cuts to come. At the same time, the Swiss National Bank removed its currency cap of 1.20 per euro on the franc which had been maintained since September 2011. The Swiss move shocked markets and set off volatile moves among currencies and sent many equity indexes lower for the week. Dealers said the SNB's decision had unnerved investors as it raised the possibility of future unanticipated moves by other central banks.

Swiss National Bank

The move by the Swiss National Bank shocked markets. It came just a few weeks after its December 11, 2014 Quarterly Monetary Policy Assessment. The SNB announced that it will no longer maintain 1.2 Swiss francs per euro. At the same time the SNB signaled a 50 basis point cut in its deposit rate to minus 0.75 percent and an equivalent reduction in its target corridor for 3-month CHF Libor which now stands at minus 1.25 percent to minus 0.25 percent. The initial response in the currency markets was to send the euro plummeting and the Swiss franc soaring.

Thursday's action came after the SNB lowered benchmark interest rates by 75 basis points in a bid to protect its exchange rate goals. The move clearly indicates that the SNB no longer sees such a policy as viable. With the ECB widely expected to adopt quantitative easing — be it next week or later this quarter — and escalating global geopolitical disturbances enhancing the safe haven appeal of the Swiss franc, the central bank probably regarded an eventual move from the EUR/CHF1.20 as irresistible. The SNB indicated that it will continue to take account of the exchange rate in setting its monetary policy but the door to foreign exchange speculation is now wide open and a period of possibly acute volatility is to be expected as the currency markets try to determine the Swiss unit's new equilibrium level.

The Swiss economy is very open — exports account for nearly 70 percent of real GDP — and roughly one-half of the country's exports are destined for the Eurozone. Therefore, an appreciation of the Swiss franc (CHF) against the euro can have a significant slowing effect on Swiss export growth. In addition imports (which subtract from GDP) are equivalent to nearly 60 percent of Swiss GDP, so exchange rate appreciation can have a depressing effect on Swiss inflation. Indeed, Switzerland has been flirting with a mild case of deflation for the past few years.

Reserve Bank of India

In an unexpected move the Reserve Bank of India decided to cut its key repo rate by 25 basis points to 7.75 percent. The action came just two weeks ahead of its first scheduled policy setting meeting of the year on February 3.

The change in the repo rate was accompanied by 25 basis point cuts in the reverse repo rate to 6.75 percent and in the marginal standing facility (MSF) rate and Bank Rate to 8.75 percent. However, the cash reserve ratio was held steady at 4.0 percent. The monetary easing reflects the unexpectedly sharp fall in inflation in recent months, compounded of late by the slide in oil prices. As a result, both near and longer term inflation expectations have fallen and now stand in single digits for the first time since September 2009. RBI governor Raghuram Rajan cited a sharp decline in inflation in India, which relies heavily on imported energy, as the main reason he cut rates. The RBI even suggested that CPI inflation could be below its 6 percent target set for January 2016. Subsequent rate cuts will be at least in part contingent upon fiscal consolidation and to this end, next month's national budget will be watched especially closely.

Global Stock Market Recap

Europe and the UK

Most European markets advanced last week with one notable exception — the SMI. Energy stocks provided support to the markets at the end of the week as the price of oil climbed back above $47 per barrel. Mining stocks also provided a boost, as commodity prices continued to rise. On the week, the FTSE was up 0.8 percent, the CAC jumped 4.8 percent and the DAX soared 5.4 percent to a new record high. The SMI plunged 13.2 percent.

The SMI plummeted following Thursday's unexpected announcement by the Swiss National Bank Thursday that it was no longer maintaining its cap for the Swiss franc. The SMI plunged 8.7 percent on Thursday and 6.0 percent on Friday. By removing the cap, the Swiss franc soared, negatively affecting exporters' competitiveness. 

The majority of the European markets surged higher Thursday after the move by the Swiss National Bank. European markets initially dropped but then rebounded and remained solidly in positive territory. The decision has further fueled speculation that the European Central Bank will announce further quantitative easing measures at its January 22 meeting.

Eurozone inflation turned negative in December for the first time in more than five years. The harmonized index of consumer prices was down 0.2 percent on the year — the biggest decline since September 2009 when prices were down 0.3 percent.

An earlier ECB bond buying program won crucial legal backing from the top EU court Wednesday, giving a boost to speculation that the ECB may opt for full blown quantitative easing as its January 22 meeting as it battles the threat of deflation in the euro area.

Investors also continued to keep an eye on the situation in Greece, ahead of the country's January 25 elections. While the possibility of a Greek exit of the Eurozone remains, most now are of the opinion that it is unlikely to occur.

Asia Pacific

Most equity indexes retreated last week thanks to lower oil prices, disappointing quarterly results from U.S. banks and a surprise decision by the Swiss National Bank to scrap its currency cap on the franc. For the week, the Shanghai Composite and Sensex gained 2.8 percent and 2.4 percent respectively. Chinese shares bucked the downward trend to extend recent gains on stimulus hopes while Indian shares were higher in the wake of an unexpected interest rate cut by Reserve Bank of India Thursday. In contrast, both the Nikkei and Kospi were down 1.9 percent while the All Ordinaries dropped 3.0 percent.

The Shanghai Composite climbed as weak lending figures and fresh data portraying a slowdown in foreign direct investment (FDI) spurred hopes that the People's Bank of China will ease its policy to boost growth. China's FDI last year rose 1.7 percent from the previous year although the pace of growth slowed from 5.3 percent in 2013. China's merchandise trade data beat expectations, with exports growing an annual 9.9 percent in December while imports declined 2.3 percent, leaving a trade surplus of $49.6 billion, down from November's record high of $54.48 billion.

Bank of Korea

Unlike the other central bank announcements Thursday, this one was expected. The Bank of Korea held its key interest rate at 2.0 percent for a third straight month. The BoK cut the rate by 25 basis points in both August and October 2014. Since then, policymakers said they wanted to evaluate the impact of the two cuts. December consumer price index was up just 0.8 percent from a year ago — the weakest rate since late 1999 — on account of low oil prices and weak demand. That could give room for the central bank to take further action.

The Bank of Korea cut its growth and inflation forecasts for 2015, acknowledging the twin threats of weak demand and falling oil prices. The cuts could signal that although no action was taken on monetary policy, further easing could be on the way. At his post meeting press conference, BoK Governor Lee Ju-Yeol released the Bank's latest forecasts. GDP for 2015 was revised down to 3.4 percent while CPI inflation was reduced to 1.9 percent. The BoK has an inflation target of between 2.5 and 3.5 percent.

Currencies

The euro plunged to a new 11-year low against the U.S. dollar as expectations of the European Central Bank unveiling a quantitative easing program reached fever pitch. The euro dropped sharply Thursday and Friday after the Swiss National Bank scrapped its currency ceiling against the common currency, based on the expectation that its counterpart in Frankfurt is poised to start buying sovereign debt — and depreciate the euro further. With even the SNB seemingly certain that the ECB is ready to act — and act forcefully — traders who had already grown increasingly confident that quantitative easing is on the cards at Thursday's ECB governing council meeting pushed the euro even lower.

After the SNB's announcement, the Swiss franc soared against both the U.S. dollar and euro. The euro had already been sliding on expectations that the ECB will introduce stimulus to counteract falling prices and stagnant growth. Investors have been abandoning the euro in droves since last May as the ECB eased monetary policy.

On the week, the U.S. dollar advanced against the euro, pound sterling and Canadian dollar. It retreated against the Swiss franc, yen and Australian dollar.

Selected currencies — weekly results

Indicator scoreboard

EMU

December harmonized index of consumer prices was down 0.1 percent on the month and down 0.2 percent on the year. The latter was the first sub-zero reading since October 2009. However, the core rate that excludes food, alcohol, tobacco and energy was up 0.7 percent from a year ago, in line with its November reading and also matching the wider underlying measure that omits just unprocessed food and energy. Excluding seasonal food and energy the rate was again 0.7 percent. Elsewhere in the HICP basket annual inflation in non-energy industrial goods was zero after declining 0.1 percent in the previous month while the services rate was steady at 1.2 percent. Energy posted a 6.3 percent decline following November's 2.6 percent drop and food, alcohol & tobacco prices were flat after a 0.5 percent increase.

United Kingdom

December consumer price index was unchanged on the month and up 0.5 percent from a year ago. The annual inflation rate equals its lowest mark since the series was first published in 1989. The main negative effects on the annual headline rate came from the housing & household services sector. Here, monthly prices were unchanged in December after a rise of 2.3 percent in December last year. Instrumental were gas & electricity charges which were essentially flat following an increase a year ago. The other sizeable downward impact stemmed from lower transport costs which were off 0.2 percent on the month this December compared with a 1.0 percent increase over the same period in 2013. Almost all of this was attributable to the decline in the price of petrol and diesel. The only upward contribution of note came from alcohol & tobacco where this December's 0.2 percent monthly drop was well short of the 1.2 percent decline a year ago. However, underlying prices accelerated slightly with a 0.2 percent monthly increase in the core CPI and an annual rate of 1.3 percent.

December input prices dropped 2.4 percent after sliding a revised 0.7 percent drop in November. On the year, input prices were down 10.7 percent. Output prices were down 0.3 percent and 0.8 percent on the year. The main negative impact on overall output prices came from petroleum products which saw a monthly slide of nearly 4 percent. Other subsector changes were relatively small with the next steepest drop being in clothing, textile & leather (0.3 percent) and the sharpest rise in food products (0.4 percent). Core factory gate prices were flat on the month for a third successive occasion and 0.8 percent higher than in December 2013, a tick lower than the November rate. The decline in input costs was similarly dominated by energy where crude oil charges were 13.2 percent lower on the month and alone subtracted 2.5 percentage points from the change in the headline index. Elsewhere within the basket, the only monthly moves of any size were in fuel & home food materials (both 0.8 percent) and imported food materials (0.9 percent).

Asia/Pacific

Japan

December producer price index was down 0.4 percent on the month and up 1.9 percent on the year. Analysts expected the PPI to be unchanged on the month and up 2.4 percent on the year. Since reaching an annual increase of 4.5 percent in June, the gains have been deteriorating. Excluding the sales tax, the PPI was down 0.4 percent on the month and down 0.9 percent on the year. The data are certainly a disappointment to the Bank of Japan as it endeavors to erase deflation. Among the subindexes, it was no surprise that petroleum & coal products prices were down 8.8 percent from a year ago. Electronic components & devices were down 0.8 percent. Prices for nonferrous metals climbed 9.6 percent. Food prices were up 2.9 percent while textile products were up 4.2 percent.

December machine orders excluding volatile items disappointed. On the month they added only 1.3 percent against expectations of 4.6 percent. On the year, orders were down 9.2 percent. Core machinery orders are a proxy for private capital expenditures. Economists were hoping for better figures after a steep 6.3 percent fall a month before, which broke a four-month trend of gains. The Cabinet Office cut its future assessment and admitted that the recovery could be stalling. Nonmanufacturing orders also excluding volatile orders edged up 0.5 percent while manufacturing orders dropped 7.0 percent on the month. Orders from overseas were down for a third month, this time by 6.0 percent. Total orders dropped 10.4 percent after sliding 2.9 percent in November.

Australia

December employment jumped a much greater than anticipated 37,400 to 11,679,400. Estimates were for an increase of only 2,500. November employment was revised upward to show creation of 45,000 jobs from 42,700. The unemployment rate edged down to 6.1 percent from the downwardly revised November rate of 6.2 percent. The seasonally adjusted labour force participation rate increased to 64.8 percent. For the year 2014, employment increased 213,900. The increase in employment was driven by full time jobs which increased 41,500. The increase in full time employment was marginally offset by a decline in part time employment of 4,100. The number of unemployed decreased 16,200 to 759,200 in December 2014.

China

December merchandise trade surplus (unadjusted) was $49.6 billion, down from $54.47 billion in November. Exports were up 9.7 percent on the year after increasing 4.7 percent in November. Imports slumped 2.4 percent after increasing 6.7 percent the month before. For 2014, the trade surplus jumped to $382.5 billion from $259.75 billion in 2013. The rise in exports suggests the global economy picked up momentum last month, but the decline in imports indicates domestic demand is weakening. The fall in imports is consistent with the latest producer price index deflated by 3.3 percent in annual terms, the most since September 2009, reflecting a drop in demand for raw materials. On a seasonally adjusted basis, exports were up 1.2 percent on the month, down from November's 1.9 percent increase. On the year, exports were up 6.6 percent after rising 7.7 percent the month before. Imports edged up 0.2 percent on the month after sliding 6.9 percent in November. Imports dropped 6.2 percent on the year after slipping 2.2 percent in November.  Unadjusted exports to the U.S. were up 9.9 percent while imports were up 3.0 percent on the year. The surplus was $15.81 billion. In November, the surplus was $3.03 billion. In trade with the European Union, exports were up 4.9 percent while imports jumped 15.4 percent for a deficit of $11.45 billion. In bilateral trade with Japan, exports dropped 7.2 percent on the year while imports slipped 0.1 percent. On the year, the surplus was $63.33 billion.

Bottom line

The Swiss National Bank shocked investors when it abandoned its currency cap against the euro. The Reserve Bank of India surprised and lowered its key interest rates just two weeks before its scheduled meeting. The euro sank while the Swiss franc soared.

The Banks of Japan and Canada hold monetary policy meetings next week. No policy change is expected from either. The European Central Bank also meets. Expectations are very high that the ECB will introduce a quantitative easing program in its attempt to avoid deflation and boost the stagnant economy. Flash January PMI indexes will give a clue on how the European economies are faring since the beginning of 2015. China releases fourth quarter 2014 growth data.

Looking Ahead: January 19 through January 23, 2015

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