by Vishy Karamadam on Aug 10, 2010
World equity markets across all major economies rallied in July, as markets responded to strong earnings announcements from global corporations. However, despite good overall corporate earnings news, financial markets’ underlying concern about the strength of the economic recovery, particularly in United States, continues to persist.
In North America, the Dow Jones Industrial Average (DJIA) led the way with a 7% jump in July, erasing the decline witnessed in June, while Toronto’s commodity-heavy S&P TSX Composite jumped 3.7 percent for the month, as major commodities rallied for the month. Speculation that China may be able to engineer a so-called “soft-landing” of its economy, slowing the torrid pace of growth without causing a recession, helped push the commodity markets higher.
In the United States, the situation continues to be fragile. The federal government has revised its economic data for previous quarters downward to indicate that the Great Recession was deeper -- and the subsequent recovery slower - than the original estimates. In the second quarter, US GDP increased by a tepid 2.4 percent, a decline from the 3.7 percent annual rate in the first quarter. This suggests the economy is losing momentum as it enters the second half of the year. In fact, evidence is mounting that US manufacturing is cooling, after being an area of strength so far this year, following a severe downturn in the recession.
Existing home sales declined 5.1% for June, as expiring tax credit incentives contributed to a weakening housing market. Recently released US consumer confidence numbers indicate a decline in consumer confidence, which likely means a resurgence in consumer spending is not around the corner. Since consumer spending accounts for 70% of the US economy, any sustainable recovery must be anchored by consumers. However, with the employment picture not appreciably improving, consumers appear to be leery of opening their wallets.
Current economic numbers suggest the world’s largest economy is slowing and financial markets are keeping a close eye on the actions of the US Federal Reserve. Earlier in the month, the Fed indicated it believed that economic growth would be “moderate”. In addition to its pledge to keep interest rates low for an “extended period”, the Federal Reserve has pumped more than $2 trillion into the US economy through various measures such as buying mortgage-backed securities and it has indicated it remains ready to act if more is required.
Canada, which has thus far enjoyed a recovery that has been the envy of the G-8, is also seeing some signs of a slowdown. Canadian housing sales, a key area of strength, have been slowing, as has GDP growth and employment data. The Bank of Canada raised its benchmark interest rate by 25 basis points in July, the second straight time it has done so after keeping rates at unprecedented lows for more than a year. In raising its rate, the Bank moved to lightly tap the brakes on a Canadian economy that had been showing signs of sustained recovery. However, the bank also revised down its forecast of GDP growth to 3.5% in 2010, 2.9% in 2011 and 2.2% in 2012. The bank’s rate increase announcement made it clear that future rate hikes are not assured and that it will consider the strength of the domestic and global economic recovery before raising rates again.
Internationally, the Chinese economy cooled slightly in the second quarter, a slowdown that is likely to extend for the rest of the year. The central government in Beijing is currently steering its monetary and fiscal policy back to normal levels, after a record credit surge it undertook to counter the global economic crisis. China’s annual gross domestic product growth in the second quarter moderated to 10.3%, from 11.9% in the first quarter; this might seem like bad news but the consensus is that a slowdown is a welcome relief from any potential trouble due to an overheating Chinese economy.
The moderation in growth engineered by the government makes it increasingly likely the pace of monetary tightening will slow. Financial markets were worried the Chinese government could be applying the brakes too hard to an economy that has been the major engine of the global recovery. China’s economy, which has gained a greater share of global GDP over the past 15 years, became the top trading partner of Brazil, India and South Africa last year so a slowdown in the Chinese economy will be felt in many countries that depend on it for their trade-fuelled growth.
Though the pace of global economic growth remains likely to be positive, developed countries are still experiencing a slow recovery from the recession while many emerging economies have fared much better.
The recovery outlook for the remainder of this year and into next year remains uncertain and this will likely contribute to ongoing volatility for global financial markets. Investors would be well-served to be focused on long-term investment strategies, asset allocation to manage their risk and stock up on Dramamine.