China, Euro Area, Bernanke: Elements from the last 24 hours

Growth is not on an upside trend, that’s the conclusion we can have after surveys publications today in China and in the Euro Area. In both regions, activity was shrinking in May.

In China the manufacturing sector synthetic index was down at 49.6 below the threshold of 50 that separates improvement (above 50) and deterioration (below 50). This is the first time since last October that the index is below 50. This means that manufacturing activity is contracting at a slow pace (below but close to 50). In April the index was at 50.4.
We can see on the chart below that since the beginning of 2012 the index remains close to 50. This reflects the lack of momentum in the Chinese economy.
Index average for April and May is now below the first quarter average. We could have a weak GDP number for the second quarter. During the first three months of 2013 quarterly growth at annual rate was 6.5%.


In the Euro Area surveys are for both manufacturing and services sectors. The global synthetic index was 46.8 in May versus 46.7 in April. It is the 21st consecutive month of decline in economic activity as measured by this survey (this is consistent with GDP which has declined during the last 6 quarters = 18 months).
For the manufacturing index the synthetic index was up at 47.8 in May after 46.7 in April. Manufacturing activity is still contracting but at a slower pace. This is not the case for services where the index is marginally down to 46.4 versus 46.7 in April.

In Germany the synthetic index was trending down again. It was at 48 in May after 48.4 in April. The German economic activity is contracting more rapidly in May. Better oriented index for the manufacturing sector does not compensate.the weaker index for the service sector. In fact in Germany the impulse on the manufacturing sector is too weak to be a strong catalyst for the services sector. This low momentum in the manufacturing sector comes from weaker exports (-0.3% in volume on three month change in February).

In France there is an improvement but at a low level. The index is still well below 50 but creeping from 44.8 in April to 45.3 in May. The activity is still contracting but at a slower pace. The two components are up but still in negative territory (45.5 for the manufacturing sector and 45.2 for the services)

These figures are consistent with a new contraction in Euro Area GDP during the second quarter (at best GDP quarterly growth number could be 0). From the published data there are no information that could let us imagine a rapid change in trend.

For the other Euro Area countries we will have to wait until June 1st.

The chart below shows profiles for the Euro Area, Germany and France.


In both China and the Euro Area headline signals are negative but details are different in the manufacturing sector. The New Orders to Inventories ratio has a divergent profile in the very short run between the two. This is the first chart below. It’s down, below 1, in China meaning that New Orders momentum is lower than Inventories’ momentum. In other words, inventories are large enough to satisfy demand. This is no longer the case in the Euro Area where the ratio has converged to 1 in May.

In the second chart below we see the consistency between this ratio and 3 month change in the industrial production index in the Euro Area. The adjustment in the Euro Area could lead to higher production in the coming months.



We see with these publications that 2 of the largest regions of the world have a weak momentum in economic activity and a lack of autonomy in their growth process. (For details see here)
The Chinese economy which dynamic is now less conditioned by exports has difficulties to find a new and more balanced growth process. The index remains close to 50.
n the Euro Area the situation is still weak with a lot of uncertainty as I mentioned it in a post yesterday (see here).

This uncertainty in 2 of the largest economic regions was a good reason for Bernanke to indicate that Fed monetary policy will not change rapidly. In fact, on his preliminary speech Bernanke has shown that implicitly he was afraid of doing again what has been done in the US in 1937/1938. In 1937 the Fed and the Treasury have strengthen the policy stance as growth was strong. Economic activity stopped rapidly in 1938. Ben Bernanke wants clearly to avoid such a situation. (see here)

This was clear in his speech but during the Q&A he was less clear as he said that change in monetary policy (asset purchases) was data dependent and that an improvement on the labor market could change the Fed’s behavior. The message was even darker after the publication of the minutes of the last FOMC meeting (May 1st). It was then said that asset purchases could slow after next June meeting. The message from the Fed lacked of clarity and that why interest rates were up on Wednesday evening.

The Fed problem is two sides
1 – When looking exclusively at domestic indicators it is possible to imagine that the economy could work well with lower asset purchases. Growth trend is moderate but the risk of negative break is lower now. With this in mind we can understand why there are pressures to stop purchases.
2 – But global growth is not strong as it was mentioned for China and the Euro Area. In other countries also the economic momentum remains weak. This is the case for India and even for Australia or South Korea. These countries have recently adopted more accommodative monetary policies.
A change in the US monetary policy stance would have an impact on these countries, on their monetary policy and on the way they want to manage this latter.
With a change in the US monetary policy there is a risk of sudden stop. It’s a situation where all become conditioned by the US situation and it is usually negative for emerging countries due to capital outflows).
This could have a negative impact on global growth and at the end could be negative for the US economic activity.

As there is no other engine in the world economy except the USA, it is probably a good strategy for the Fed to continue to purchase assets on a large scale.

As it was seen on the market an announcement of lower purchases could have a strong impact on interest rates. It is necessary for no one. With low momentum on global growth and a low inflation rate, there is room for the Fed to keep its very accommodative monetary policy stance. There is no urgency to change.