OMG it’s the OMT!
The ECB left interest rates at 0.75% at its September meeting but President Draghi spelled out the details of Outright Monetary Transactions (OMTs). It sounds like a game show, but in fact it’s a new bond-buying programme with two main aims. The first is to help fight “unfounded” fears of a Eurozone break-up. The second is, through this, to restore the transmission mechanism of monetary policy in the euro area, which has been severely damaged during the crisis. But there are strings. Countries that want to benefit have to have made a formal request for help and agreed to “strict and effective” rescue programs. The Bundesbank is firmly against the policy, believing that it’s tantamount to printing money. But with unemployment at a record-high of 11.3% in July and the Eurozone economy likely go into recession in Q3, President Draghi wanted something big and bold to settle nerves.
No change, no surprise at this month’s Monetary Policy Committee Meeting
In the UK, the MPC left both the Bank Rate and the Asset Purchase Scheme unchanged. The Committee may be closer to cutting rates than it was a few months ago, but it wasn't likely to alter course when the Funding for Lending Scheme was barely a month old. The upwardly revised GDP figures for Q2 may have steered the Committee away from more loosening just yet, but there is still a way to go before it will be happy that the economy will be OK without it. Happily inflation expectations waned in Q3 which gives the MPC one less thing to worry about.
Better news on the UK economy in August
The PMI (Purchasing Managers’ Index) survey for UK manufacturing rose to 49.5 from 45.2 (a reading below 50 indicates contraction) - a clear bounce from July. The PMI survey for services was more encouraging. It rose to 53.7 from 51. While PMI surveys have been an inconsistent indicator of GDP performance, these data will raise hopes that the UK economy can pull itself out of recession in Q3. Official data on industrial production were also mildly encouraging. Overall production in July was down 0.8%y/y and manufacturing down 0.5%y/y, but both are improving and are at their highest level since September 2011.
Eurozone economic slowdown intensifies in August
In contrast to the UK, the composite PMI for the Eurozone, covering manufacturing and services, dropped to 46.3 from 46.5 in July. Another contraction in output doesn’t bode well for avoiding recession in Q3. The data show that weakness was broad based across the region, but the rapid fall in exports in France and Germany is worrying. Exports limited the extent of the fall in Eurozone GDP in Q2 to 0.2%. Without them, output is likely to shrink in Q3 too, putting the Eurozone officially in recession.
Bet the farm on QE3 in the US
The US ISM Manufacturing survey came in at 49.6, the third successive sub-50 reading and a value consistent with wider growth in Q3 of 1-2%, which is less than is needed to bring unemployment close to target. Aside from rising employment, the details of the survey are depressing. New orders are falling more quickly and inventories are rising (53.0 from 49.0). The backlog of work is falling (42.5 from 43.0). This isn’t good news for the economy, but it probably is for shareholders in warehousing companies!
US job growth disappointed in July
Only 96,000 US jobs were created in July, well below expectations and even further below the average monthly growth of 139,000 in 2012. Paradoxically the unemployment rate fell from 8.3% to 8.1%, but this isn’t good news. It was only achieved because more people have given up looking for jobs. The participation rate in the US fell to 63.5% in July – its lowest since 1981. Overall the output and employment data make it seem almost inevitable that the Fed will launch another round of quantitative easing very soon.
The markets responded well to the President Mario Draghi’s policy, which allows the ECB to buy unlimited bonds from Eurozone countries in difficulties. The idea is that this will help to keep sovereign borrowing rates at sustainable levels by reassuring markets that the ECB is committed to keeping the Eurozone intact. If this continues to bolster confidence and stability, it will be good news for everyone. In the UK it will add to the positive survey reports from businesses, confirmed in official data. In the US anything will help, especially after disappointing jobs data make it look almost certain that the Fed will launch another round of quantitative easing.