Markets take a breather, as investors wait to see the effects of massive liquidity injections
24/Sep/2012 • Currency Updates•
Most asset markets had a flat-to-down week, after the previous week’s liquidity-driven rallies. The main news of the week was that the Bank of Japan surprised investors and announced further quantitative easing, by raising its Asset Purchase Program from 10 trillion yen to 80 trillion. The BoJ thus joined the Federal Reserve and the ECB in aggressively easing monetary conditions further. With every single major central bank in the developed world (Fed, SNB, ECB, BoJ, and others) bent on shocking markets with its willingness to engage in quantitative easing, the stage is set for an unprecedented experiment in worldwide macroeconomic policy. Will the massive liquidity injections suffice to prop up growth by themselves, now that fiscal easing seems politically impossible? We remain sceptical, given that previous injections have had at best a moderate effect which diminishes with each new application. However, this is clearly the question that will drive FX and financial markets in general for the next few quarters.
Therefore, leading macroeconomic indicators (such as PMI indices) are more critical than ever; the news so far is not encouraging.
The minutes of the MPC meeting in September provided further support to our expectations of additional monetary easing as early as November. The key question for the UK economy is whether to rely on the gloomy growth figures or the somewhat more upbeat employment numbers; the minutes make it clear that the majority of MPC members tend towards pessimism, and think that recent strength there will not be sustained. There were few other macroeconomic releases last week. The most important was August retail sales, which came out under expectations and partly unwound some surprising strength that had been seen earlier in the summer. In FX markets, sterling largely tracked the dollar. GBP ended up about 1.2% against the euro, and flat against the greenback.
The euphoria generated by the ECB’s aggressive message the previous week dissipated somewhat last week. As we wrote earlier, the PMI indices will provide the first indications on the success of extraordinary easing policies from world central banks, and the first data out of Europe are not encouraging. The composite PMI in September actually fell by 0.5, down to the lowest level in this double-dip recession and confounding expectations for an uptick.
The significant easing of sovereign spreads over the last few weeks has had no impact so far on European business confidence. Further gloomy news came from exports (down 2% mom saar in July) and car registrations (down 25% saar so far in the third quarter). The common currency struggled all week against this steady stream of gloomy news, and lost over 1% against the dollar, finishing back below the 1.30 level.
No surprises last week from mostly second-tier macroeconomic releases in the United States. A series of housing market reports (Homebuilders survey, existing home sales, housing starts) all showed improvement in August, confirming that the moderate recovery in the US housing sector is on track; further drops in mortgage rates will ensure that housing continues to provide roughly 1% of GDP growth to the US economy for the next few quarters, in our view. The recent drop in energy prices will also buoy consumer spending in non energy items, and partly compensate for fiscal austerity and sluggish business investment. We maintain our expectations for US growth in the 1.5-2.5% range.