Articles
Markets drop as fears grow about global economy
In the light of the significant market movement overnight in the US, coupled with the drop in our markets today, we thought we would share two pertinent articles that came across our desks today.
BT Chief Economist Chris Caton's reaction to the current market volatility
Markets are selling off around the world because of global growth fears.
In recent days, the US has had a disappointing Q2 GDP report, a disappointing manufacturing purchasing managers' survey (the ISM) and news that real consumer spending fell for three months in a row through to June. Together, these suggest that the loss of momentum of the US economy has been worse than thought earlier.
Oddly, there was no poor economic news on Thursday, but markets are also spooked by rising debt concerns in Italy and Spain, and actions by the ECB and the Bank of Japan that convinced investors that things must be worse than they thought.
I see these fears as overdone; much of the slowdown in the US seems to be due to higher oil prices (which have since come off) and disruptions to manufacturing because of the supply-chain effects of the tsunami. That economy is not about to burst from the blocks, but it should resume moderate growth.There is a key data release this evening: the July employment report. This is the most important single piece of economic news, and if it's bad look out. On the other hand, I actually see more chance of a positive surprise, so it could be a good night.
The fall in the Australian market today, and in the currency, has nothing to do with the state of the Australian economy and everything to do with these overseas concerns. It will, however, further damage consumer sentiment. The good news: a further interest rate increase is now off the agenda.
Hamish Douglas Magellan Asset Management
The sovereign debt issues in Europe and recent poor economic data out of the United States have led to considerable market volatility in recent days and months. The sovereign debt issues in Europe cross two complex and associated issues.
The first issue is a solvency issue. In our view Greece is effectively insolvent and Portugal and Ireland have potential solvency issues. The good news is that the European Union and the European Central Bank have finally recognised the insolvency issue in Greece. The new Greek bailout package is a fundamental step in the right direction. The package materially reduces Greece’s financial burden via the extension of loan terms and the reduction in interest rates; these measures were also extended to Ireland and Portugal. The proposed involvement of private sector creditors to swap Greek sovereign debt for longer duration lower interest debt will also materially reduce the present value of Greece’s outstanding debt. This reduction in Greece’s debt burden is a fundamental step in putting Greece on a path to sustainability. We suspect that more still needs to be done, however we are optimistic that the tools and policies are now in place to address Greece’s solvency issues.
The second issue engulfing Europe is a potential sovereign debt liquidity crisis affecting larger European countries, particularly Italy and Spain. We do not believe that either of Spain or Italy are insolvent, however a collapse in bond market confidence could push yields on sovereign debt to levels that create a true liquidity crisis. In our view monetary union presents particular challenges to addressing this situation. For a country that has its own currency and an independent central bank able to readily print money this situation would be addressable. In such circumstances the central bank could print money and buy bonds on the open market to drive down yields and monetise government funding requirements. The current policy path potentially involves the European Stability Fund (which is constrained in size) and the ECB buying affected bonds (with necessary offsetting asset sales) on the market to stabilise yields.
Unfortunately if this situation continues to escalate and in the absence of a dramatic and possibly unlimited increase in the size of the European Stability Fund, this policy path is akin to bringing a pea shooter to a gun fight.
We do believe that there are two potential policy options which would address these liquidity difficulties; either allowing the ECB and EU central banks to print money or allowing the EU to issue Eurobonds to finance the struggling economies.
We feel it is unlikely that these liquidity issues will result in a financial Armageddon scenario and that correct policies will eventually be pursued. However there are divergent views on the correct path of action and thus we could have a sustained period of considerable volatility until this is resolved.
We remain realistic and relaxed about the difficulties facing the US economy. The recent decision to raise the US debt ceiling has removed considerable risk in the short term and we are confident that the US will take action over the next few years to ensure it is on a sustainable long term fiscal path.
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