Global Markets

Stocks and bonds were volatile last week, exacerbated by European Central Bank President Mario Draghi's comments at his post governing council meeting press conference. He commented that markets should get used to volatility. The markets obliged. U.S. bonds and German bund yields gyrated. The volatility continued after the release of the U.S. employment report. Thanks to the 280,000 gain in employment, traders were once again recalibrating their expectations for the Federal Reserve's first step towards interest rate normalization. The cacophony was increased after the IMF opined that the Fed should wait until 2016 to increase rates. Most global equity indexes were down on the week. A notable exception was the Shanghai Composite which added 8.9 percent on the week.

Mario Draghi, the president of the European Central Bank, may have contributed to the market turmoil when he said on Wednesday that the central bank would not try to manage bond markets or react to short-term fluctuations in prices. "We should get used to periods of higher volatility," Mr. Draghi said at a news conference in Frankfurt. Big swings in prices, he said, are to be expected when interest rates are very low. And he emphasized that the central bank would continue a plan announced in March to buy 60 billion euros, or about $67 billion, of government bonds and other debt each month through September 2016 as part of an economic stimulus program.

International Monetary Fund downgraded its outlook for the U.S. economy this year, citing renewed economic uncertainty and weak inflation that is well short of the Federal Reserve's 2 percent target. The IMF also urged the Federal Reserve to delay a rate increase until the first half of 2016. This was a very unusual move for the IMF to explicitly comment about U.S. policies. Although the remarks were unusual, they were delivered as part of the routine periodic "Article IV" consultation which is normally conducted with each of its member countries. It reviews recent economic developments. The timing of the comments came at a very sensitive time with the FOMC meeting just a week and a half away. The IMF remarks go against a concerted effort by the Fed to counter the markets' obsession with the timing of the first rate increase.

One of four central banks takes action, three maintain status quo

Reserve Bank of India

As expected, the Reserve Bank of India announced a further 25 basis point reduction in key interest rates. As a result, the benchmark repo rate now stands at 7.25 percent and the reverse repo at 6.25 percent. The marginal standing facility rate and Bank Rate were similarly lowered 25 basis points to 8.25 percent but there was no reduction in the cash reserve ratio which stays at 4.0 percent.

The move reflects a combination of sluggish domestic growth, some slowdown in global economic activity and below target inflation. However, the RBI pointed to an uncertain outlook for inflation, notably relating to the southwest monsoon, as well as to the recent rise in crude oil prices and volatility in the global environment. Consequently, it sees benefits of front-end loading a rate cut and then waiting to see how the data evolve over coming months. The Sensex dropped around 400 points soon after the policy announcement  and closed the day down by nearly 2.4 percent. The rupee fell to 63.87 on the U.S. dollar from 63.72 the day before.

Reserve Bank of Australia

As expected, the Reserve Bank of Australia kept its key interest rate at 2 percent after cutting it both in February and May. The Board gave no guidance after the May 25 basis point cut. The Board said that after easing in May, it judged that leaving the cash rate unchanged was appropriate. Information on economic and financial conditions to be received going forward will let the Board assess the outlook and whether the current stance of policy will most effectively foster sustainable growth and inflation consistent with the RBA's inflation target range of  2 percent to 3 percent.

Regarding the Australian dollar, it noted that it has declined especially against a rising U.S. dollar over the past year, but less so against a basket of currencies. It said that depreciation seems both likely and necessary, particularly given the significant declines in key commodity prices.

The Board noted that the economy is likely to operate with spare capacity for some time to come thanks to subdued government spending. A key drag on private demand currently is weakness in CAPEX in both mining and non-mining sectors and is likely to persist over the next year.

European Central Bank

As universally expected the European Central Bank kept its monetary policy unchanged. It announced no changes to key interest rates — the benchmark refi rate stays at just 0.05 percent while the rates on the deposit and marginal lending facilities remain at minus 0.2 percent and 0.3 percent respectively. The ECB is adhering to its current plan of buying €60 billion a month of public and private sector assets through September next year with a degree of front-end loading.

The decision follows confirmation of a modest acceleration in growth at the start of the year as well as a fourth consecutive monthly increase in HICP inflation. However, first quarter GDP was still only sluggish and the current quarter is shaping up little better. Moreover, despite its rise, inflation has only just returned to positive territory and remains well short of its near-2 percent target mark. Money supply continues to accelerate but the key lending counterpart actually slowed in April and shows no increase from a year ago.

At his press conference, ECB President Mario Draghi indicated that the central bank saw the Eurozone economy evolving broadly in line with its own expectations. However, Draghi did acknowledge that some of the second quarter statistics to date had been slightly on the soft side. In any event, with Greece rapidly running out of money, the main interest was inevitably in any news on how the negotiations with the country's creditors are going. However, Mr Draghi effectively refused to comment on the issue. He did say however, that the markets should get used to greater volatility.

Bank of England

There were no surprises from the Bank of England's June monetary policy committee meeting which, as widely anticipated, left Bank Rate at 0.5 percent and its asset purchase ceiling at Stg375 billion. Since the Bank's May discussions, annual CPI inflation has posted its first ever negative reading (minus 0.1 percent in April) and growth has been confirmed at a surprisingly sluggish 0.3 percent quarterly rate in the January through March period. There have also been some signs of a more recent cooling in service sector activity and additional indications of a marked deceleration in momentum in manufacturing. However, the doves have not had it all their own way as retail sales were particularly robust in April (possibly May too) and house price inflation has shown renewed signs of life. Wage growth has also accelerated although the rate remains historically low.

Global Stock Market Recap

Europe and the UK

European markets finished solidly in the red last week with losses ranging from 1.4 percent (SMI and IBEX) to 2.8 percent (FTSE MIB). The FTSE (down 2.6 percent) suffered its biggest weekly drop in nearly six months. The week saw some of the biggest moves across stocks and bonds in years, after comments from European Central Bank President Mario Draghi on Wednesday in which he said markets should brace for more volatility. Also fraying investors' nerves, the IMF on Thursday cut its forecasts for U.S. economic growth and called for the Federal Reserve to delay any increase in short term U.S. interest rates until 2016.

Once again Greece was the main culprit for the decay in the equity averages. Greece, on Thursday, decided to delay its payment due to the International Monetary Fund. The IMF said that Athens has informed the fund that it will not make a €300 million loan repayment Friday (June 5) and will instead use a rarely-used IMF rule that will allow Greece to bundle all €1.6 billion it owes in June and pay at the end of the month (June 30). Under an Executive Board decision adopted in the late 1970s, country members can ask to bundle together multiple principal payments falling due in a calendar month (payments of interest cannot be included in the bundle). The decision was intended to address the administrative difficulty of making multiple payments in a short period.

The Bundesbank raised its economic growth outlook for Germany. The economy returned to a growth path with strength stemming from domestic demand that was boosted by a favorable labor situation and substantial income increases. In the semi-annual report released Friday, Bundesbank economists forecast real gross domestic product to grow 1.7 percent this year, faster than the prior estimate of 1.0 percent. For next year, growth is expected to be 1.8 percent instead of 1.6 percent.

Investors tried to reassess their options after ECB President Draghi said markets should get used to volatility. The statement injected uncertainty into the markets. The yield on the benchmark German 10-year bond touched 0.99 percent, its highest level since September, before erasing the day's rise and falling back to 0.87 percent. Singapore's 10-year bond yield surged to its highest level in almost two years. After announcing that the ECB had decided to keep interest rates on hold at record lows Wednesday, Mr Draghi said markets should get used to periods of volatility, which he said will not affect monetary policy decisions. Both 10-year U.S. Treasury and German bond yields hit highs for the year after Mr. Draghi's news conference.

Asia Pacific

Equities retreated last week even as the Shanghai Composite soared. Investors were cautious after Greece delayed a key debt payment and the International Monetary Fund downgraded its outlook for the U.S. economy for this year, citing renewed economic uncertainty and weak inflation that is well short of the Federal Reserve's 2 percent target.

The Sensex declined four of five trading days as worries about the U.S. growth outlook and concerns about a possible Greek default kept investors on edge. The index was down 3.8 percent on the week. Growing fears that a drought this year would weigh on growth and spur inflation kept investors on edge. The agriculture sector shrank for the first time in five years in the year ended March 31, but the government has confidence and policies in place to ensure there is minimum damage to the agriculture sector and overall economy.

The Shanghai Composite jumped 8.9 percent on the week and is now up over 55 percent in 2015. Equities climbed sharply before May merchandise trade and inflation data which will be released during this coming week. The Hang Seng is not as frothy as the Mainland index. It retreated 0.6 percent on the week and appears to be more closely aligned with equity performance in Europe and the U.S.

The Shanghai Composite vaulted over the 5,000 level for the first time in more than seven years Friday, capping more than a week of wild trading and resuming a rally that has made China one of the best global performers in 2015 so far. Shares in China have been climbing for much of the year, but turned volatile on May 28 when the Shanghai index plunged 6.5 percent in one day. The rollercoaster resumed Thursday when shares plummeted 5 percent at midday and then shot up and closed higher. The recent big swings have largely been sparked by worries over a clampdown on margin trading, where investors borrow money from brokers to purchase stocks. China's Securities Regulatory Commission said after the market closed Friday that it is revising margin trading rules, and will detail the changes in the future.

Currencies

The U.S. dollar advanced against three of its six major counterparts for the week. The currency gained against the yen, pound sterling, and the Australian dollar. It retreated against the euro and was unchanged against the Swiss franc and Canadian dollar. The dollar vaulted above the 125 yen level in U.S. trading after the employment report's release. Contributing to the yen's weakness was a statement by Takahiro Mitani, president of the Government Pension Investment Fund, Japan's giant public pension fund. He sees no imminent need to consider hedging against the risk of a stronger yen.

The dollar rallied Friday after the stronger than anticipated employment report for May. The report reignited the debate on when the Federal Reserve will increase its fed funds rate. The euro dropped after the report after climbing the day before. Sterling also retreated. Before the report was released, the euro had been trading around $1.124. At this writing (Friday afternoon, June 5th), the currency was trading at about $1.112.

Japanese officials have made conflicting comments on currency policy in recent days, underlining the dilemma Tokyo faces — a weaker yen is good for the nation's economy but could complicate its relationship with the U.S. The dollar's climb this week to a fresh 12-year high against the yen is generally welcomed by Japan's policy makers and leading exporters. The decline has boosted exports and earnings at many companies, a result of stimulus policies engineered by the government of Prime Minister Shinzo Abe to spur growth and end deflation. Betting that corporate profits will continue to rise, investors have sent Japanese stocks to their highest levels in over a decade.

But the surging dollar also brings some worrisome aspects. It pushes up the prices of imported food and energy, hurting consumers and small businesses. It could also strain economic relations between the U.S. and Japan, hampering efforts to complete a landmark regional trade pact. In Washington, concerns have swelled over the harmful effect of the stronger dollar after the U.S. economy slowed down sharply in the first quarter.

Selected currencies — weekly results

Indicator scoreboard

Eurozone

May flash harmonized index of consumer prices increased 0.3 percent on the year, finally moving back into positive territory. This equaled the highest reading since October 2014. May's provisional acceleration largely reflected stronger performances by the less volatile subsectors. Excluding energy, food, alcohol & tobacco, the yearly rate was 0.9 percent, 0.3 percentage points above its final April reading. Omitting just energy and unprocessed foods, inflation was also 0.9 percent and 0.2 percentage points firmer than last time. Prices of non-Industrial goods were 0.3 percent higher on the year after a 0.1 percent increase in April while services saw a 1.3 percent gain following 1.0 percent previously. Food, alcohol and tobacco prices were up 1.2 percent, slightly firmer while energy advanced 0.8 percentage points to minus 5.0 percent.

April retail sales were up 0.7 percent on the month, matching their largest increase since January 2014 and more than reversing March's slightly smaller revised 0.6 percent decline. Annual growth of purchases was 2.2 percent, up from 1.7 percent last time. The headline gain was dominated by a rebound in food, drink & tobacco where sales jumped a monthly 1.3 percent having contracted a cumulative 1.3 percent in February/March. More significantly, excluding auto fuel, non-food expanded only 0.3 percent. This failed to recover March's entire 0.5 percent decline but was still the third advance so far in 2015. Regionally, April's improvement was led by Germany which recorded a 1.7 percent monthly increase following declines of 0.2 percent and 1.4 percent in February and March respectively. France (0.5 percent) and Spain (0.8 percent) also posted fresh gains. Elsewhere, Ireland (3.2 percent), Belgium (0.6 percent) and Estonia and Portugal (both 0.8 percent) similarly enjoyed a decent month.

April unemployment rate declined to 11.1 percent from a downwardly revised 11.2 percent in March. This was its lowest reading in more than three years. The total number of people out of work stood at 17.846 million, down from 17.976 million in March and 18.011 million in February. There was also good news on youth unemployment where the rate dropped to 22.3 percent from a revised 22.6 percent last time. Among the larger EMU members, the national jobless rate fell 0.2 percentage points to 12.4 percent in Italy and by the same amount to 22.7 percent in Spain. France (10.5 percent) and Germany (4.7 percent) were both unchanged. Top of the jobless ladder with the highest number of unemployed was again Greece (25.4 percent in February) while Germany continued to occupy the bottom rung with the least.

Germany

April manufacturing orders were up 1.4 percent on the month following an upwardly revised 1.1 percent gain in March. However, annual growth slowed from 2.0 percent to 0.5 percent. This was the first back-to-back gain in orders since September and October 2014. The monthly advance in total orders reflected a 2.3 percent rise in capital goods and a 4.5 percent rebound in consumer and durables. However, basics were down 0.9 percent. In contrast to March, growth was wholly attributable to overseas demand where orders were up a monthly 5.5 percent after a 1.4 percent contraction last time. Within this, orders from the other Eurozone countries gained 6.8 percent. The rest of the world recorded a 4.7 percent increase. Domestic orders, having risen 4.3 percent at the end of last quarter, declined 3.8 percent. Compared with April 2014 domestic orders were 1.4 percent weaker but overseas demand 1.9 percent firmer.

Asia/Pacific

Australia

First quarter gross domestic product grew at a faster rate than anticipated rate. GDP was up 0.9 percent on the quarter and 2.3 percent on the year. Expectations were for quarterly growth of 0.7 percent and the annual pace to be 2.1 percent. While the quarterly rate was faster than the fourth quarter, the annual rate was down from 2.5 percent. Net exports contributed 0.5 percentage points to GDP growth. Household final consumption expenditure and changes in inventories each contributed 0.3 percentage points. However, gross fixed capital formation subtracted 0.3 percentage points. The GDP figures underscore some success for policymakers as the economy transitions in the wake of an export-to-China boom that's kept the economy humming without interruption for 23 years. In February, the Reserve Bank of Australia narrowed its growth forecast for this year to the downside, from a 2 to 3 percent range to 2.25 percent. Last month it cited "weaker growth in China" as a reason below-trend growth could be prolonged. It said that mining investment will fall sharply over the next two years and predicted a "later than earlier envisaged" pick-up in the non-mining sector.

April retail sales disappointed, registering no changed on the month after increasing 0.2 percent in March. Expectations were for an increase of 0.3 percent. On the year, sales were up 4.1 percent. The April reading was the weakest since May 2014. Sales advanced in cafes, restaurants & takeaway food services (0.8 percent) and clothing, footwear & personal accessory retailing (1.3 per cent). Household goods retailing was relatively unchanged. There were declines in other retailing and food retailing (both down 1.0 percent), food and department stores (down 0.7 per cent). Sales were up regionally in Victoria, the Australian Capital Territory, South Australia and the Northern Territory. New South Wales was relatively unchanged. Sales were down in Queensland, Tasmania and Western Australia.

Australia's merchandise trade deficit soared to the largest on record — A$3.888 billion. Exports dropped 5.7 percent on the month and 8.1 percent from a year ago. Imports were up 3.9 percent and 2.5 percent. Analysts anticipated a trade deficit of A$2.3 billion. Non-rural goods dropped 8 percent, partly driven by coal, coke & briquettes which were down 22 percent as a result of the temporary closure of ports due to severe weather conditions. Metal ores and mineral exports sank 13 percent. Rural goods slid 1 percent. Among imports, capital goods were up 10 percent driven by imports of machinery & industrial equipment which rose 69 percent. Intermediate & other merchandise goods and consumption goods both gained 4 percent.

Americas

Canada

April trade deficit narrowed to C$2.97 billion from a revised C$3.85 billion in March. The reduction in the shortfall reflected a 2.5 percent reversal in imports which was partly offset by a 0.7 percent monthly decline in exports. Exports to the U.S. were up 1.6 percent which, with imports 1.0 percent lower, saw the bilateral black ink expand from C$1.62 billion to C$2.42 billion. The drop in the nominal trade deficit was largely mirrored in the real balance as exports volumes rose 0.5 percent on the month and price adjusted imports declined 1.8 percent. The monthly drop in total nominal exports was driven by a 6.0 percent slide in consumer goods. Other sizeable declines were recorded in forestry products & building & packaging materials, metal ores & non-metallic minerals and aircraft & other transportation equipment & parts. However, energy products increased helped by higher prices. Overall imports were weighed down by decreases in metal & non-metallic mineral products, basic & industrial chemical, plastic & rubber products and consumer goods. Energy expanded 7.4 percent.

May employment jumped 58,900. The unemployment rate however remained at 6.8 percent for a fourth month thanks to an uptick in the participation rate to 65.9 percent. The increase in employment was biased towards full-time jobs which were up 30,900. Part time jobs increased 27,900. Private sector payrolls climbed 56,800 while the public sector shed 19,100 and the number of self-employed gained 21,100. Goods producing industries posted a 10,200 advance within which manufacturing increased 21,500. Utilities were up but there were small declines in construction, natural resources and agriculture. Services recorded a very solid 48,600 increase, largely thanks to a 20,700 jump in health care and social assistance. Other sizeable gains were registered in trade (16,800), finance, insurance, real estate & leasing (12,700) and business, building & other support services (12,900). The only decline of any real note was in public administration.

Bottom line

Equities swooned last week with only the Shanghai Composite showing solid gains. Bond yields gyrated in the U.S. and in Germany. The yield on benchmark 10-year German bunds soared as much as 51 basis points to their highest in 7 months. ECB President Mario Draghi appears to be getting some of the blame for this most recent eruption of market volatility. But economic data were also a factor as the greater than expected uptick in eurozone inflation further diminished deflation risks and fueled speculation of earlier ECB tapering. The Reserve Banks of Australia and India, the European Central Bank and the Bank of England held monetary policy meetings. Only the RBI lowered its key interest rates by 25 basis points. U.S. employment jumped by a greater than expected 280,000 setting off concerns about when the Fed will increase its fed funds rate.

News next week centers primarily around industrial output in Europe. China posts its major economic indicators for May. The Group of Seven meets in German town of Garmisch-Partenkirchen. Investors will continue to assess each data point leading up to the FOMC meeting on June 16 and 17.

Looking Ahead: June 8 through June 12, 2015

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