A long, strange, volatile day. Charted:
Stocks suffered large swings, with financials taking some of the biggest hits. Yields on 10-year US Treasuries were up by their largest amount this year — ending up around 2.57 per cent. The euro rallied against the US dollar to finish at $1.43. Brent Crude futures ended up for the day (2.4 per cent) but still fell 6.31 per cent for the week, according to Reuters. For more detail and more prose, see the FT’s global market overview.
It’s been another hell of a day. As ever, it’s naive to draw straight lines from one data point or news to the market reactions. But …
… there were at least five noteworthy developments in long-running sagas, all of which took place after FT Alphaville shuffled into the New York bureau. (Apparently there was news in London earlier in the day, too.) Here’s a quick recap.
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What just happened?
1. Non-farm payrolls surprised on the upside but the labour market remained terrible. Consensus expectations were for a 85,000 reading and there were audible sighs of relief when the BLS announced that 117,000 net jobs were added in July. There were other positive signs, too: manufacturing employment rose by 24,000 and average earnings crept up. But while double-dip fears dipped, there was no hiding the continuing soft patch. The average duration of US unemployment is now 40.4 weeks, the highest on record. One should also never forget the human tragedy attached to that number, especially when the US government has no jobs plan despite its “singular focus”.
2. The ECB was said to be ready to buy Italian (and Spanish) bonds, according to Reuters citing a source. The report suggested there was a quid pro quo between Brussels and Rome, with the latter agreeing to further austerity measures (see below). Despite — or because — this straying perilously close to ECB constitutional issues, it was well received by many analysts. Deutsche Bank’s Alan Ruskin called it “the most desirable outcome for the markets available ,” predicting “an extraordinary rally in BTPS on Monday”. However he also points out the €1,900 elefante in the room: Italy’s gross government debt, and the relative tidliness of the EFSF. Thus, the credibility of Italian reforms remains key. Oh, and growth.
3. Silvio Berlusconi announced that Italy would attempt to bring forward austerity measures. Cue the “Berlusconi Bounce” (trademark FT Alphaville). In reality, the credibility of the reforms matters much more than the details announced by the Italian prime minister. He said that the Italian budget would be brought into balance by 2013 rather than 2014, as promised last month. He also pledged labour market, welfare and tax reforms, and hinted at further state asset sales. Economists at UniCredit Research in Milan described it as “the response we were hoping to see”. Now it’s all about implementation — and Italy isn’t short of political risk.
4. Berlusconi and Nicolas Sarkozy said there would be a meeting of G7 finance ministers. There was a bout of telephone diplomacy on Friday amongst the Group of Seven finance ministers and amongst G7 leaders. The French President then announced there would be an emergency meeting of G7 finance ministers “in a few days”. The G20 received little mention, despite the possibility that China may play an important role in any endgame in the eurozone. We expect more details over the weekend. In the meantime, go long switchboard operators and translators.
5. Rumours circulated about an announcement by S&P on the US AAA rating. At pixel time this was still very much raw. Reports from CNN and ABC suggested that the White House was challenging the rating agency’s analysis. However, if there was to be an announcement — of a downgrade, say — then it would make sense to do it on a Friday to give markets time to dust off those debt ceiling contingency plans from, erm, earlier this week. Update: Those rumours were true, of course.
And that was just Friday.
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So, what happens next?
First, a little step back. In case it’s failed to escape anyone’s attention, the financial crisis is still with us, albeit in mutated form. The transfer of debt in the rich world from one balance sheet to another has been going on for more than a decade and now there are fewer and fewer places for it to go. Combined with anaemic growth, and stressed short-term deposit markets, it’s a grim context for financial markets. This was always going to be messy, and governments have hardly helped in their responses, wrenching demand from economies in dire need of it.
At worst, then, we’re heading for another deep dive into crisis waters. Alternatively, and still more likely, in the US at least, this is an extended soft patch, as brighter minds than ours say is de rigeur after financial crises. Perhaps we won’t know for years — the Great Depression still makes wonks get all vituperative to this day. What looks definite, though, is that the idea of “risk free” is being rapidly reevaluated and the results of that reevaluation are being seen every day.
Unfortunately, it doesn’t appear that rich world governments and central banks have either of the two things they need at this juncture: (1) a strategy for dealing with the problem; and (2) the tools for implementing that strategy. Commentators can opine all they like about the lack of links between the macroeconomy and the financial markets. Of course, fundamentals matter — one doesn’t don’t need a CFA for that. But when bad data collide with bad policies in an uncertain environment, markets jump.
We don’t know what will happen next but, given that all eyes are on politicians and officials yet again, these questions seemed to be fairly pertinent. There are no doubt many more.
1. Will there be any form of co-ordinated G7 action? Telephone diplomacy and episodic intervention are one thing, but French and Italian comments on Friday have raised the prospect of co-ordinated action. We anticipate a lot of words and little action but it’ll be interesting to see if anything comes from the G7 finance ministers’ meeting next week.
2. What will be the reaction to the ECB’s Spanish and Italian bond purchase? (Assuming it happens, of course.) This will depend on the form of the purchase, the diplomacy surrounding it, and of course what happens to yields on Monday. The size of purchases matters (not that we’ll easily know), but German reaction may matter even more. There have already been unsurprising reports of discord amongst officials in Berlin.
3. What will the Fed decide at Tuesday’s FOMC? It would be out of recent character for the Fed to do announce anything drastic on Tuesday. But it will be interesting to see if there are any signs of QE2.5 — a changed communication strategy, targeting longer maturities and so on. It’ll also be interesting to hear Fed comments on recent interventions by the Japanese, European and Swiss central banks.
4. What — if anything — will be the response of the Fed and the US Treasury should the funding squeeze continue? This is partly contingent on whether S&P chooses to downgrade the US but it’ll be a factor regardless. BNY Mellon will start charging some cash depositors next week. We don’t yet know whether this week’s strains will persist but it’s still worrying that, three years after some Money Market Funds broke the buck, the shadow banking system remains vulnerable.
5. What will the rest of the world do? Stand by and watch, heads in hands, of course. But as well as that, officials in the rest of the world will be watching out for capital flows, exchange effects, and all that jazz. FT Tilt is your place for all this and more. Though this rich world observer noted with amusement that it’s an emergency G7 meeting, leaving out the 13 countries that actually have some policy wiggle room.
Of course, by Monday there will be five new questions. Such is 2011.
Related links:
Preparing for a US debt disaster – FT Alphaville
Five days from debt deal to disaster – FT