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Prospects Weekly: Global financial markets are eager for policy action

Global Macroeconomics Team's picture

Global financial markets are eager for policy action. Bond yields for high-spread Euro Area sovereigns remain high, but eased somewhat this week with successful bond issuances by France and Spain and optimism that EU leaders will reach agreement to resolve the debt crisis at the forthcoming December 9th EU summit. Global equities posted a rally in response to coordinated action by five central banks to cut dollar-funding costs. Developing country industrial output growth remains weak outside of China, where growth has proven resilient. Various factors are contributing to slow outturns for developing regions, including the unwinding of rebound effects from the Tohoku disaster and strong headwinds from high-income Europe. Activity in high-income countries is mixed, with negative growth in the EU, slowing growth in Japan (well above trend) and the United States (below trend), and strengthening in some other smaller high-income countries. Inflation in developing countries appears to have peaked and has been easing in recent months, partly due to previous monetary tightening. Inflation remains low in high-income countries, but has risen on fading disinflationary oil-price-impacts.

 

Bond yields for high-spread Euro Area sovereigns remain sharply elevated, but have eased on optimism ahead of next week’s EU summit. Successful bond auctions by France and Spain on December 1st sent yields lower across the Euro Area. Nevertheless, Spain’s 5-year borrowing cost climbed to 5.54% at the auction that raised €3.75bn ($5.1bn), converging toward the 5.74% 10-year yield. While Italy’s borrowing costs jumped above 7% at its auction on November 29th, they have retreated to 6.68% in the interim. A coordinated move by five central banks to cut dollar-funding costs supported market sentiment this week.

 

Excluding China, industrial activity in developing countries fell at a minus 1.5% pace during the three-months ending September (3m/3m, seasonally adjusted, annualized rates). Latest readings for all developing regions are negative or decelerating, with the exception of Sub-Saharan Africa, which posted zero growth in August after minus 4.1% in July. Output in East Asia and Pacific, excluding China, slowed sharply to 4.2% in September from 13.2% in the month prior (China posted a solid 10.4% rate in October). The weak output data reflects various dynamics, including an abating impetus from Japan’s post-disaster rebound and the influence of floods in Thailand, where production fell 34% in October. Excluding the European Union and Japan, industrial output in high-income countries strengthened to 2.4% in September from 1.4% in the month prior, led by gains in high-income East Asia (Singapore) and oil exporters (Saudi Arabia). U.S. industrial output growth slowed to 1.3% in October (from 3.9% in July), partly due to rising headwinds from Europe. PMI surveys continue to point to weaker global activity ahead.

 

Lower commodity prices, lagged impacts of monetary policy interest rate hikes and slowing growth have contributed to lower inflation in developing countries. Headline inflation decelerated most markedly in East Asia and Pacific (to 4.4% in October from 6.6% in August, 3m/3m, saar) and in Europe and Central Asia (to 7.8% from 9.6%). China’s central bank reduced reserve requirements (the first time since 2008) and Brazil’s central bank introduced a policy interest-rate cut. Nevertheless, South Asia and Latin America and the Caribbean remain high at 8.2% and 8% in September and October, respectively. In high-income countries, inflation rose to 2.2% in October (3m/3m, saar). This compares with a recent low of 1% in August (3m/3m, saar) and partly reflects a waning disinflationary impulse from falling energy prices—as core inflation has remained relatively stable. Inflation is up across EU countries, with few exceptions. Portugal, Greece, Spain and Italy are among those recording larger increases, which likely reflects administered price increases aimed at fiscal consolidation.

 

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