Separately, the British Bankers Association’s measure of Loans for House Purchase is set to show that mortgage approvals rose by 40,500 in August, the most since February 2008, hinting at stabilization in the property market. Earlier this week, a report from Rightmove Plc showed that UK house prices fell the least in a year in September, saying “confidence is up, stock is down and the number of people searching is high.” However, as we noted earlier, the rebound may have a hard time retaining traction with consumer sentiment apparently tracking equities and therefore is vulnerable to a (long overdue) correction in risky assets while unemployment continues to rise, with a survey of economists polled by Bloomberg calling for the jobless rate to top 9% next year.

Turning to the continent, a handful of Purchasing Manager Index releases are expected to come in broadly positive. In Germany, the manufacturing sector is expected to expand for the first time in 14 months while the pace of expansion in the service industry picks up to the fastest since April 2008. Manufacturing will likely continue to shrink in the Euro Zone as a whole but the rate of decline is set to moderate to the slowest since the sector first began to contract in May last year. The improvement can likely be attributed to the continued rebuilding of inventories after firms cut production and exhausted their stocks of goods last year and through the first quarter of 2009 amid the global economic downturn. Still, Industrial New Orders are expected to shrink -25.9% in the year to July, suggesting the pace of demand contraction will remain within the range noted since November of last year.

Asia Session Highlights

New Zealand’s Gross Domestic Product unexpectedly added 0.1% in the three months to June, snapping five consecutive quarters of losses. Economists were forecasting a -0.2% result ahead of the release. The economy shrank -2.1% from a year before, less than the expected -2.6% decline. The Reserve Bank of New Zealand was among those calling for a contraction when Governor Alan Bollard said the bank expected to “keep [interest rates] at or below the current level…until the latter part of 2010” at the monetary policy announcement earlier this month, and traders seemingly took today’s release to mean the time table will now accelerate. Indeed, a Credit Suisse gauge of priced-in rate hike expectations for the coming year jumped 13 basis points to a record high and the New Zealand Dollar surged to a fresh 2009 high against a trade-weighted basket of top currencies.

The US Dollar Index (an average of the greenback’s value against six major counterparts) spiked to a fresh yearly low after the Chinese central bank’s deputy governor Hu Xiaolian wrote in a paper posted on the G20 website ahead of the group’s summit in Pittsburg this week that the current crisis was due in part to the Dollar’s role as global reserve currency. Hu, who is also the former director of China’s foreign-exchange authority, went on to say that the world stands at risk of an asset bubble and potentially another crisis akin to the current one if the global monetary system is not changed.

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UK Retail Sales are expected to rise 2.7% in the year to August, snapping two months of consecutive gains in the annual growth rate. The metric has seen atypical volatility over recent months as rising unemployment grappled with rebounding asset prices and government stimulus for dominance over consumer sentiment. Looking ahead, we see the downside scenario as more plausible. Fiscal support is inherently limited with the UK budget deficit already set to average close to 13% of GDP though 2010, threatening the country’s sovereign credit rating. Meanwhile, global equities are looking increasingly overdone having finished August at the highest level relative to earnings since May 2003. The upward trend in unemployment looks far more permanent, however, with a survey of economists polled by Bloomberg expecting the jobless rate to top 9% by the end of next year. This will trim incomes and discourage spending, weighing on retail activity in the months ahead.

The Euro Zone Trade Balance surplus is set to expand to 6.4 billion euro in July, the most in over two years. Exports figures may prove disappointing, however: industrial production fell more than economists expected in the same period while the currency has been pushing higher in trade-weighted terms since late April, now up over 5.6%, making European-made goods comparatively more expensive and thereby less attractive to foreign buyers. A drop in imports seems like a much more plausible driver for an improvement in the headline figure, especially considering the sharp decline in Swiss industrial output reported earlier this week. As we have previously noted, manufactured goods top the list of Swiss export commodities, so the drop in production is indicative of lackluster demand in key overseas markets, where the top three Euro Zone economies alone account for close to 50% of demand.

Asia Session Highlights

Japan’s Tertiary Industry Index grew slightly more than economists expected, adding 0.6% in July to show that demand for services has rebounded to the highest level since February. The result likely owes to continued support from the government’s record-setting 25 trillion yen stimulus package. Indeed, government spending accounted for the bulk of economic growth in the second quarter. The question now facing Japan as well as most other developed countries is what happens when the flow of public funds invariably dries up. On balance, unemployment continues to push higher, trimming incomes and hinting at turn lower in spending (including that on services) in the months ahead.

New Zealand’s Business NZ Performance of Manufacturing Index fell to 48.7 in August from 49.6 in the previous month, showing the pace of contraction in the industrial sector quickened for the first time since May. The sub-index measuring New Orders led the metric lower, dropping by -5.1 points to register the largest decline in 9 months, while output shrank the most since February. The report follows news that manufacturing sales dropped the most on record in the second quarter, adding yet more weight to last week’s comments from Reserve Bank of New Zealand Governor Alan Bollard, who said the stronger New Zealand Dollar puts business profits “under pressure” and warned that “If the exchange rate were to continue its recent appreciation…the sustainability of the present recovery will be brought into question.”

The Bank of Japan unanimously agreed to keep interest rates unchanged at 0.10%, as expected, but policymakers raised their forecasts for economic growth as economic conditions begin to “show signs of recovery”, calling for growth to begin to rebound in the second half of the 2009 fiscal year (the 12 months ending April 2010). The bank still sees downside risks to the economy, however, saying fiancial conditions continue to be “severe” while consumption remains weak and capital spending is still falling. Policymakers made no changes to their asset-buying and lending programs. On balance, BOJ Governor Maasaki Shirakawa concluded that “risks to the economy are still on the downside [with the outlook] attended by a significant level of uncertainty.”

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In the Euro Zone, the Consumer Price Index is set to show inflation shrank at an annual pace of -0.2% in August, confirming initial estimates. To that effect, the reading may already be priced into the exchange rate and, barring unforeseen revisions, looks unlikely not produce a meaningful response from the currency markets. The longer-term view is not encouraging for the single currency, however: while the August reading amounts to a slight improvement from the previous month’s -0.7% contraction, the bottom line is that prices are set to decline for the third consecutive month, threatening to bring economic growth to a virtual standstill if expectations of lower prices in the future encourage consumers and businesses to perpetually delay spending and investment. This leaves the door open for traders to punish the Euro in the months ahead if it becomes clear the currency bloc is heading for a long-term period of sub-par performance and low interest rates.

Swiss Retail Sales are expected to add 0.7% in the year to July, a reading slightly lower than the previous month’s 0.9% result. Shrinking prices have boosted consumers’ purchasing power in recent months, encouraging spending, but continued deflation threatens to work against retail activity if it translates into entrenched expectations of even lower prices in the future. Rising unemployment is also setting up to be a formidable obstacle: the jobless rate surged to 3.8%in August, the highest in over three years, and is expected to hit 5% next year.

Asia Session Highlights

Australia’s Westpac Leading Index added 1.1% in July, rising to the highest level in seven months. The index fell -1.8% from a year ago, the smallest decline since October 2008. The metric seeks to forecast how the economy will perform over the coming three to nine months. Westpac chief economist Bill Evans said the upswing in the index over recent months points to “a significant improvement in [Australian economic] growth prospects in 2010.” However, Evans noted that the bank does not expect future growth will be “sufficiently robust” to warrant to raise interest rates before next February, reinforcing the cautious tone of the minutes from September’s RBA monetary policy meeting.

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The second-quarter Euro Zone Employment report is unlikely to prove market-moving: traders have likely priced in the state of the market already having seen the monthly unemployment gauge rising steadily higher since June of last year, most recently hitting a record 9.5%. Separately, Industrial Production is expected to shrink -16.7% in the year to July, extending the moderation in the pace of contraction that began after the record -21.2% annualized drop in April driven by both domestic and global fiscal stimulus as well as the inventory restocking cycle. However, a downside surprise may be in the cards after German industrial production unexpectedly fell during the same period.

Asia Session Highlights

New Zealand Retail Sales unexpectedly fell in July, shrinking -0.5% and disappointing expectations of a 0.4% result. The previous month’s result was also revised lower, showing sales fell -0.1% rather than grew by the same magnitude as was originally reported. The release reinforces last week’s comments from Reserve Bank of New Zealand Governor Alan Bollard, who said the medium term outlook for retail spending “remains weak” as unemployment continues to rise. Indeed, the jobless rate hit a 9-year high of 6% in the second quarter and central bank expects it to surpass 7% by the end of next year. Bollard also linked continued turmoil in the labor market to the New Zealand Dollar, saying the stronger currency puts business profits “under pressure” and warning that “If the exchange rate were to continue its recent appreciation…the sustainability of the present recovery will be brought into question.”

The US Dollar pummeled both the Euro and the British Pound to start the trading week, with both currencies falling as much as -0.6% against the greenback as stocks sold off in Asian trading and US equity index futures pointed to a sharply lower open on Wall St in the day ahead. The MSCI Asia Pacific Index slid -1.5% while futures tracking the Dow Jones Industrial Average suggested US issues would open down 1.6%.

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Asia Session Highlights

New Zealand’s House Prices advanced for the fourth consecutive month, adding 0.7% through August according to Quotable Value (QV), a government valuation agency. In annual terms, prices fell -2.8% from a year before, the smallest decline in 13 months. QV valuation manager Glenda Whitehead said that, “The housing market is strongly driven by confidence and that appears to be returning.” Indeed, Westpac’s measure of consumer sentiment rose to the highest since the fourth quarter of 2007 in the three months through June. Rising home values may create a perception of growing wealth among property owners, helping to boost consumer spending and by extension spur overall economic growth. New Zealand Finance Minister Bill English has said the economy will begin to expand again in the second half of this year. On balance, however, this may prove of little help to the New Zealand Dollar considering the central bank has pledged to keep interest rates low for now, saying they will remain “at or below current levels” until the latter part of 2010.

Finance ministers and central bankers from the Group of 20 nations (G20) concluded a summit in London with a pledge to keep expansionary fiscal and monetary policy in place for as long as need be to ensure the durability of the nascent economic rebound that has been seen over recent months. Most critically, policymakers agreed to some global coordination as countries eventually begin to unwind stimulus measures to limit volatility in interest rate and foreign exchange markets. However, building consensus on such issues as bank regulation and executive compensation is already proving difficult in the absence of imminent economic meltdown, and agreeing on a coordinated plan to withdrawing stimulus seems like it will be more daunting still, threatening sharp swings in government bond yields and the corresponding currencies.

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The European Commission is set to update their economic forecasts for 2009 and 2010, with the announcement is unlikely to carry much market-moving potential. Indeed, the Euro failed to build momentum yesterday as the analogous set of expectations was upgraded by European Central Bank after policymakers kept interest rates unchanged at a record-low 1% while ECB President Jean-Claude Trichet stuck a dovish tone in the press conference following the announcement. The bank chief said uncertainty about the economic outlook remains “very high” and cautioned that the nascent recovery noted in a number of leading indicators faces a “bumpy road” ahead. He further added that the ECB sees “low inflationary pressure over the medium term” and stressed that “today it isn’t time” to unwind unconventional monetary easing measures. The markets’ 1-year interest rate expectations dropped -12.8% following the release, the largest one-day drop in a month.

On balance, currency markets are likely to pay little heed to the European data docket to focus on the US Nonfarm Payrolls report set to cross the wires late into the session. Traders have viewed US economic data as a proxy for the state of the global economy at large on expectations that a rebound in the world’s largest consumer market will reverberate elsewhere.

Asia Session Highlights

Japan’s Capital Spending fell -21.7% in the year through the second quarter, rebounding from the record -25.3% annualized drop recorded in the first three months of the year. The non-manufacturing component of the metric was behind the improvement, where spending fell -14.2%, the least in a year, having declined -27.6% in the prior quarter. Capital spending for the manufacturing sector shrank -32.0%, accelerating from the -21.2% result noted in the previous period. On balance, this is somewhat encouraging: the non-manufacturing sector employs close to 66% of Japan’s labor force, so any signs that these firms are increasing capacity may translate into hiring, consumption, and ultimately boost economic growth. Still, it must be kept in mind that Japan’s savings rate stands at about twice that of the developed country average, so any improvement in the labor market will take considerable time to translate into spending growth.

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In the UK, Services PMI is set to rise to 54.0 in August from 53.2.0 in the previous month, showing that the industry expanded at the fastest pace since February 2008. However, the analogous metrics for the manufacturing and construction sectors both disappointed, suggesting rising unemployment may be starting to become a meaningful drag on leading indicators and opening the door for a downside surprise in today’s report.

Asia Session Highlights

Australia’s Trade Balance deficit widened much more than economists expected in July, showing a shortfall of –A$1.5 billion, the largest in 15 months. Preliminary forecasts ahead of the release had called for a –A$0.9 billion result. The previous month’s reading was also revised down to –A$0.54 billion from the –A$0.44 billion originally reported. The gap expanded as imports surged 4%, driven by a 21% increase in oil shipments. Imports of consumer goods advanced 2%, owing to overseas purchases of vehicles, food, and beverages. Exports fell 1%, led by a hefty 27% drop in cross-border gold sales. On the face of it, the data paints an encouraging picture of the Australian economy: rising oil demand (primarily in the form of industrial fuel and lubricants) points to an increase in production and hints at possible improvement in the employment situation while the increase in consumer demand is good news for the spending climate and thereby overall economic growth. However, not all is as rosy as it seems: much like yesterday’s surprisingly strong second-quarter GDP result, the surge in Australian demand evident in today’s data likely owes the government’s ample fiscal package, including A$20 billion in cash handouts to households and A$22 billion in infrastructure spending. Indeed, as we have previously suggested, the big question going forward will be whether the now buoyant Australian economy can maintain momentum once the flow of stimulus cash dries up.

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In the UK, Construction PMI is set to rise to 48.0 in August from 47.0 in the previous month, showing that the industry shrank at the slowest pace in at least 13 months. However, the analogous metric for the manufacturing sector unexpectedly declined yesterday, suggesting rising unemployment may be starting to become a meaningful drag on leading indicators and opening the door for a downside surprise in today’s report.

Asia Session Highlights

Australia’s Gross Domestic Product grew 0.6% in the second quarter, topping economists’ expectations of a 0.2% result. The annual pace of economic growth advanced to 0.6%, rebounding from the 18-year low of 0.3% in the three months to March. The details of the report appear encouraging: private consumption and investment both advanced, the former by the largest margin since the fourth quarter of 2007 and the latter by the most since the three months through September of last year. Still, the acceleration seems to be a testament to the effects of the government’s ample fiscal package, including A$20 billion in cash handouts to households and A$22 billion in infrastructure spending, and the big question going forward will be whether the economy can maintain momentum once the flow of stimulus cash dries up. The Australian Dollar surged 50 pips against its US counterpart in the hour following the release but failed to meaningfully build on that momentum as stocks dropped nearly 2% in Asian trading, weighing down the risk-linked currency. Indeed, a trade-weighted average of the Australian unit’s value is now 95.6% correlated with the MSCI World Stock Index.

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Turning to the Euro Zone, German Retail Sales are expected to grow for the first in three months, adding 0.7% in July, while the annual pace of decline moderates to -1.2% . The government’s 85 billion euro spending plan (including a “cash-for-clunkers” program to boost auto sales) is the likely catalyst behind the improvement. However, labor market data to be released later in the session is set to show that the German economy shed 30,000 jobs in August, bringing the Unemployment Rate to 8.4%, the highest since November 2007. Job losses will weigh on incomes and weigh on consumption, suggesting the economy will have a hard time building positive momentum after the flow of stimulus cash dries up. The broader Euro Zone Unemployment Rate result will probably follow higher, with forecasts calling for the metric to tick up to a decade high of 9.5% in July, mimicking the dynamics seen in the region’s top economy.

In the UK, the August edition of the Purchasing Manager Index is set to show that the manufacturing sector expanded for the second consecutive month. However, more attention is likely to be given to Net Consumer Credit, which is expected to remain flat at 0.1 billion pounds in July, a hair above the record low posted in March. This will serve to keep pressure on the Bank of England to press on with quantitative easing measures as banks fail to pass on lower interbank borrowing costs to the broader economy. Indeed, the market the BOE’s dovish posture seems to be the driving force behind sterling price action despite surface-level improvements in economic data: a trade-weighted index of the Pound’s average value topped out on 08/05, the day before the last rate decision, and has been trending lower ever since; a Credit Suisse index gauging traders’ 1-year BOE rate hike expectations (as derived from overnight index swaps) topped out on the very same day.

Asia Session Highlights

Australia’s AiG Performance of Manufacturing Index rose to 51.7 in August, showing the sector expanded for the first time in 14 months. Still, AiG chief executive officer Heather Ridout struck a cautious tone, saying that although “manufacturing activity has been improving…conditions are uneven and pressures remain on employment.” Indeed, looking at the components of the metric reveals that the rate of contraction in Employment accelerated for the first time since February. Ridout added that “There is a risk, particularly if interest rates are raised too early in the recovery phase, that as the effect of stimulus measures wane, the nascent recovery will fail to get traction.” The government of Prime Minister Kevin Rudd has distributed over A$12 billion in cash handouts this year and set aside A$22 billion for infrastructure projects.

Meanwhile, the Current Account Balance deficit widened more than economists expected in the second quarter, revealing a shortfall of –A$13.4 billion, shaving 0.2% off GDP in the three months to June. Preliminary forecasts had called for a –A$10.7 billion result. Exports dropped by a whopping 14.9%, more than doubling the -7.16% contraction in imports, with overseas shipments of gold (-40.1%), transport equipment (-35.9%), coal (-25.5%) and metal ores (-20.5%) leading the decline. This offered a counter-balance to the encouraging manufacturing PMI result, bolstering the argument that firms will be faced with sharp declines in sales as absent private demand is unable to replace the stimulative effects of the government’s fiscal measures.

The Reserve Bank of Australia kept interest rates unchanged at 3%, as expected. Bank Governor Glenn Stevens sounded broadly optimistic, saying “consumer spending, exports and business investment [are] notable for their resilience” while “Unemployment has not, to this point, risen as far as had been expected.” On inflation, Stevens noted that lower labor demand and commodity prices are likely to see prices continue to decline in the near term but “the likelihood of inflation being persistently below the target now looks low.” Such rosy comments notwithstanding, however, the bottom line is that Stevens and company judged that the “the present accommodative setting of monetary policy remains appropriate for the time being,” a disappointing outcome considering the hawkish tone of the RBA chief’s semi-annual testimony before the Parliament’s finance committee. The Australian Dollar sold off on the release, testing as low as 0.8407 to the US Dollar.

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Asia Session Highlights

The initial estimate of Japan’s Industrial Production showed that output added 1.9% in July from the previous month, more than economists expected but the least in four months. In annual terms, the pace of decline moderated to -22.9%, the slowest rate of contraction since December 2008. Output has rebounded from the lows noted in February as firms began to replenish inventories that had been depleted after sharp production cuts kicked in as overseas demand for Japanese cars and electronics began to drop off in March last year amid the deepening global economic crisis. Indeed, the Nomura/JMMA PMI gauge printed at 53.6 in August, showing that the manufacturing sector expanded for the second consecutive month. However, a sustainable upturn will have to come with growth in underlying demand, which seems destined to remain sluggish for some time. Indeed, the International Monetary Fund (IMF) said its latest world economic outlook that global trade volumes are likely to rebound just 1% having shed a whopping -12.2% in 2009.

Meanwhile, Japanese Retail Trade unexpectedly fell just -2.5% in the year to July, the smallest drop since January. Economists had predicted a -3.5% decline ahead of the release. However, the improvement in the headline figure may not be indicative of a true rebound in consumer sentiment. Indeed, most of the improvement seems to have been driven by a 7.6% jump in motor vehicle sales, which can likely be chalked up to tax breaks on purchases of fuel-efficient cars that were included into the government’s fiscal stimulus package. Looking ahead, continued weakness in the labor market is likely to keep a lid on spending as layoffs weigh on disposable incomes.

Australian Private Sector Credit grew 0.2% as expected in July, driven by a 0.84% jump in loans for new house purchases, the largest increase since April of last year. Separately, the Housing Industry Association reported that New Home Sales grew for the second consecutive month in July, adding 0.1%. The improvement is suspect however, having likely owed to fiscal stimulus rather than improved consumer confidence as the government extended a scheme offering an A$21,000 grant for first-time home buyers in May. Most worryingly, business loans grew just 0.5%, the least in over 7 years, while Operating Profits fell by a nearly twice as much as economists expected in the second quarter. A meaningful economic recovery will not materialize without a rebound in private consumption. This, in turn, requires a rebound in the labor market, which seems highly unlikely if firms are not able to either earn or borrow adequate funding for expansion. On balance, this could translate into a double-dip recession as the inherently temporary boost from fiscal stimulus begins to fade.

In New Zealand, NBNZ Business Confidence rose to 34.2 in August, the highest in over a decade. However, as we noted in our New Zealand Dollar Weekly Forecast, improvements in the headline figure may be misleading. The higher reading implies that optimists are outnumbering pessimists by an increasingly wider margin among polled survey respondents, but this is no tall order considering the New Zealand economy has been shrinking for six consecutive quarters and could prove to be flimsy evidence of a sustainable recovery in economic growth. Put another way, the relative improvement in firms’ optimism is more so a factor of the sharp declines in the recent past rather than a meaningful surge in confidence about the future.

The Japanese Yen surged sharply higher, with a trade-weighted index of the unit’s average value adding 1.2% from Friday’s close as stocks tumbled 2% in Asian trading to boost demand for the safety-linked currency. Chinese shares led the selloff, dropping over 5% to a three-month low, as China Merchants Bank (the nation’s fifth largest lender by market value) reported a third consecutive quarter of falling profits and set aside additional funds to cover future loan defaults. Japanese stocks slipped nearly a full percentage point as an election swept the Democratic Party of Japan into power for the first time ever, raising uncertainty about the practical impact that the change of leadership will have on economic policy.

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