Fed slashes rates as US growth weakens

US fourth quarter GDP growth turned out even weaker than many had expected. MarketWatch reports:

The U.S. economy barely grew in the fourth quarter, pulled down by a worsening slump in housing and heightened caution by consumers and businesses, the Commerce Department reported Wednesday.

The 0.6% annualized growth rate in gross domestic product was lower than the 1.1% expected by economists surveyed by MarketWatch. The drag from inventories was larger than expected.

Despite the slowdown, inflation persisted.

Even as growth slowed, core inflation heated up, the government said. The core personal consumption price index rose at a 2.7% annual rate in the quarter, far above the Fed's goal of 1% to 2% and the fastest pace of inflation seen in six quarters.

Meanwhile, the labour market may be holding up better than many expected. Yesterday, the ADP employment report showed that the private sector added 130,000 jobs in January.

However, the Federal Reserve appears to be focused on the negatives. MarketWatch reports the latest FOMC decision.

Fearing that financial-market turmoil and a weak housing market could cause the economy to spiral downward, the Federal Reserve moved aggressively for the second time in eight days to lower interest rates and signaled it was ready to do more as needed.

The central bank lowered the federal funds rate by 50 basis points to 3%. Financial markets were hoping that the Fed would decide to cut rates by this amount. The Fed has cut rates by 1.25 percentage points in eight days, almost unheard of in central banking history.

US stocks initially rallied after the rate announcement, but the rally didn't last long. MarketWatch reports:

U.S. stocks crumbled into the close on Wednesday, after earlier rallying in reaction to the Federal Reserve's much-anticipated half-point rate cut, with speculation that bond insurers Ambac Financial and MBIA Inc. faced downgrades helping to fuel the late-session losses...

Down about 30 points ahead of the Fed decision, the Dow Jones Industrial Average rallied nearly 200 points before retrenching as the closing bell neared to finish 37.5 points lower to 12,442.8.

And, perhaps significantly, while yields on Treasuries generally fell yesterday, those on long-term bonds did not. From Reuters:

Short-dated U.S. Treasury debt prices rallied on Wednesday in the wake of an aggressive half-percentage-point rate cut from the Federal Reserve and safe-haven flows out of the falling stock market...

But the 30-year long bond suffered. Though they would be expected to underperform during a period of deep rate cuts, analysts said the price action also reflected inflation worries.

Long bonds dropped 16/32 in price on the day to yield 4.39 percent. Prices on the long bond were earlier down more than a full point.

Even Bill Gross has doubts about the efficacy of rate cuts.

Approaches to monetary policy must change... 1% short rates were so effective 5 years ago that they not only bolstered demand but created a housing bubble of Frankensteinian proportions. Those days, however were influenced by the creation and implementation of adjustable-rate mortgages (ARMs) that were priced at the short end of the yield curve... But adjustable-rate mortgages are a dying relic. Originators will no longer offer them except on onerous terms.

And so the monetary attempt to halt housing’s – and therefore the economy’s – downward slide rests on the shoulders of the 30-year mortgage...

My point is that Chairman Bernanke must recognize the reduced benefits and obvious dangers of a déjà vu trek to 1% short rates. Those yields produced 5% 30-year mortgage rates to the homeowner for a 2-3 month period in 2003 and they could do so again, but bubble creating, inflation inducing damage to the U.S. dollar would be the likely result now. Best to stop far short of 1% and at the same time encourage reforms in FHA government assisted programs that would permit subsidized mortgage rates with minimal down payments.

And if the point is still not taken, maybe invoking fears of the 1930s would help.

... As Keynes theorized and then Krugman affirmed, when private demand falters, it becomes the responsibility of government to fill the breach. Because it likely will not do so effectively until after a new Administration is elected in late 2008, the U.S. economy and its somewhat coupled global companion will sleep walk for some time and a resumption of prosperity as we knew it will be dependent on reforms of monetary and fiscal policy resembling the 1930s more than our past decade...

Positive numbers still coming through for the US and Japan

The IMF may have cut its forecast for global growth in 2008 but there are still pockets of strength, even in the US. Bloomberg reports the latest US economic indicators.

Orders for U.S. durable goods rose more than forecast, while consumer confidence and home prices fell, indicating business investment held up as other parts of the economy weakened.

The 5.2 percent increase in demand in December for computers, aircraft and other items made to last several years was the biggest in five months, the Commerce Department said today in Washington. A gauge of confidence dropped to 87.9 this month, approaching a two-year low, the Conference Board reported separately...

While exports are keeping factories open, the housing industry shows little sign of rebounding. Prices in 20 American cities fell 7.7 percent in November from a year ago, according to the S&P/Case-Shiller home-price index.

James Picerno at The Capital Spectator tells us to keep the durable goods orders number in perspective though as "the strength in December’s report doesn’t reverse the overall trend of the past two years, which is unmistakably down".

In the meantime, ongoing efforts to provide fiscal stimulus may help the US economy, but the troubles facing bond insurers remain a big threat.

However, the US economy is not the only one facing difficulty. Goldman Sachs recently said that Japan may have already fallen into recession.

The economic indicators from Japan have not been clear though. Today's report from Japan shows that industrial output rose in December but by a smaller-than-expected 1.4 percent.

Yesterday's reports had been largely positive. From AFP/CNA:

Japan's unemployment rate in 2007 averaged 3.9 per cent...

In December, the nation's jobless rate was unchanged at 3.8 per cent from the previous month, the 25th consecutive monthly fall...

However, a separate report from the labour ministry showed there were more job seekers than job offers for a second straight month in December amid concern that many new jobs being created are unstable and undesirable...

But...spending by Japanese households in December jumped 2.2 per cent in real terms from a year earlier to an average 351,667 yen (US$3,287 dollars), far above market forecasts...

The government also said retail sales in Japan rose 0.2 per cent in December from a year earlier, the fifth straight year-on-year gain, due to increased spending on fuel because of higher gasoline prices.

US stocks recover strongly despite weak new home sales

A report showing continued weakness in new US home sales in December didn't prevent a strong performance from US stocks yesterday as attention turned once again to the possibility of further rate cuts from the Fed. Bloomberg reports:

U.S. stocks rose, extending their first weekly gain of the year, after odds increased that the Federal Reserve will cut its benchmark lending rate by half a percentage point this week to prop up the economy...

The Standard & Poor's 500 Index added 23.36, or 1.8 percent, to 1,353.97. The Dow Jones Industrial Average increased 176.72, or 1.5 percent, to 12,383.89. The Nasdaq Composite Index gained 23.71, or 1 percent, to 2,349.91. More than five stocks rose for every one that fell on the NYSE...

The S&P 500 rebounded 2.4 percent from its low of the day after the Commerce Department's report that new-home purchases slid to a 12-year low prompted traders to increase bets on a half-point rate cut by the Fed. Stocks fell today in Europe and Asia, with China's benchmark index down 6.8 percent...

Higher expectations for the Fed's rate reduction helped homebuilders in S&P indexes climb 5.7 percent as a group. The S&P Supercomposite Homebuilding Index had dropped as much as 4.4 percent today after the Commerce Department said new-home sales decreased 4.7 percent to an annual pace of 604,000 in December, the lowest since February 1995 and capping the biggest annual decline on record.

But there could be more bad news to come for US real estate if Herb Greenberg is correct. He says that commercial real estate may be next to get hit.

Memo to buyers of commercial real estate who might have cash burning holes in their pockets: Sit tight.

Prices of properties are going lower -- probably a lot lower than you think.

Don't take my word for it. The proof can be found in the shares of real-estate investment trusts, which have a remarkable track record when it comes to predicting what will happen to the prices of commercial real estate...

According to Green Street, REITs in general already are trading at 14% below their underlying asset values. Office REITs are trading at an 18% discount...

For current REIT pricing to make sense, [Green Street chairman and research chief Mike Kirby] says, real-estate values need to fall another 15% nationally. The decline would be steeper in New York, he says, with a total drop of 25%.

US productivity growth is good but it's credit growth that matters

Last week's market volatility to a large extent resulted from the realisation by investors of the increasing probability of a recession in the United States. For those thinking that the much-vaunted US productivity will save the economy, they should perhaps think again.

For some time, Michael Mandel, chief economist for BusinessWeek, has expressed the view that productivity growth would keep the United States economy healthy and growing. Productivity growth through innovation and research would offset the lack of savings and a persistent trade deficit (see, for example, the 2006 article "Why The Economy Is A Lot Stronger Than You Think".

More recently, though, he has been expressing doubts about this view. These doubts culminated in an article for BusinessWeek last week that is significant for the fact that it clearly deviates from his longer-standing view and instead asks the question: "How Real Was the Prosperity?"

After the market turmoil last week was halted by the Federal Reserve's emergency cut in the federal funds rate by 75 basis points, he wrote in the article: "But the underlying problems that ail the markets and the economy cannot be waved away by the Fed's magic wand. In truth, we're at the beginning of a long, arduous process of figuring out how much of the post-tech bubble prosperity was real and how much was the result of a credit-induced frenzy."

He highlighted the recent improvements in productivity growth. "Over the past 10 years, productivity, as measured by the Bureau of Labor Statistics, has grown at a 2.6% annual pace," he wrote. "That's up from a 1.6% annual rate over the previous decade."

However, he then added: "Yet despite the higher output, U.S. consumers have taken on an extra $3 trillion in debt."

That provides the clue. "Some of those apparent productivity gains also may be illusory," he goes on. "If the economy was artificially boosted by excess borrowing, that would show up as higher output and, presumably, higher productivity. The implication is that once borrowing recedes to the historical average, actual underlying productivity growth might be lower than we thought."

All quite valid, I think, except that his association of higher productivity with higher output may actually be overemphasising the positive.

The following charts use data from the Federal Reserve Bank of St Louis. All figures depict year-on-year percentage changes.

The first two charts show that the trend in productivity growth has indeed been rising since the late 1980s, and, as Mandel implied, this improving trend has mostly taken place at the same time as credit growth has accelerated, with the rise in household debt in particular far outstripping growth in gross domestic product, especially since 2000.

However, the growth rate in real output has, on the whole, been flat over the same period, despite the increasing productivity growth rate. Rather than a higher output growth rate, the rising productivity growth of recent years has essentially been driven by weaker employment growth in terms of both numbers of workers employed and hours worked. The impact of weaker employment growth on consumer spending was offset by strong credit growth, which helped to boost demand and kept output growth stable.

Businesses have long understood that it is easier to boost profits in the short term by downsizing the workforce rather than by increasing output. Apparently, the same applies to national productivity as well.

Note that I am not suggesting that higher productivity is necessarily bad for the economy or even for employment. In a healthy economy, higher productivity, when driven by innovation and technology, should eventually translate into stronger employment and economic growth.

However, if productivity growth was, as Mandel wrote, "artificially boosted by excessive borrowing", then it could be heading down and providing no support for the US economy in the near future. After the financial turbulence of the past few months, credit growth is now threatening to turn negative. If credit growth had helped boost productivity, it could now undermine it. And the economy along with it.

Japanese inflation up, may accelerate further

Global interest rates are falling. The same cannot yet be said of global inflation.

Bloomberg reports a jump in Japan's inflation rate.

Japan's inflation rate doubled in December to the fastest in more than nine years, as companies passed rising oil and commodity costs to consumers.

Core consumer prices, which exclude fresh food, climbed 0.8 percent from a year earlier, the statistics bureau said today in Tokyo. The median estimate of 44 economists surveyed by Bloomberg News was for a 0.6 percent gain...

Core consumer price gains may accelerate and could even exceed 1 percent, Kazuo Momma, head of the Bank of Japan's research and statistics bureau, said today.

Tokyo's core prices, a harbinger of the nationwide index, rose 0.4 percent in January from a year earlier, following a 0.3 percent gain in December. Excluding energy as well as food, nationwide consumer prices fell 0.1 percent in December. By that measure, they've failed to rise for nine years.

Expectations of a cut in interest rates by the BoJ have been pared back.

Investors reduced bets that the central bank will lower the key lending rate from 0.5 percent later this year. There's a 43 percent chance of a cut by July, down from 67 percent before the inflation report, according to calculations by JPMorgan Chase & Co. using overnight interest-rate swaps.

But in India, expectations of a rate cut were raised this week despite inflation edging up. From AFP/CNA:

Inflation accelerated to 3.83 percent for the week ended January 12 from 3.79 percent a week earlier, according to the wholesale price index, India's main cost-of-living monitor. It was 6.15 percent in the same year-ago period.

But inflation remained well below the Reserve Bank of India's ceiling of close to five percent for this fiscal year to March 31, 2008...

[F]ears about a global slowdown that could hit Indian growth and the US Federal Reserve's massive 0.75 percentage point cut Tuesday in its key lending rate to 3.50 percent sparked hopes the bank would ease monetary policy soon.

Markets recover amid mixed economic data

It was a day of mixed economic news.

China's economy grew 11.2 percent in the fourth quarter, easing slightly from 11.5 percent in the third quarter. Inflation also cooled slightly in December to 6.5 percent from 6.9 percent in November.

Japan's all-industries index fell 0.5 percent in November while its export growth slowed to a 6.9-percent rate in December from 9.7 percent in November.

However, in Europe, Germany's Ifo business-climate index increased to 103.4 in January from 103 in December while the Belgian National Bank's business confidence indicator rose to minus 0.8 in January from minus 1.9 in December.

There was both good news and bad news from the US. Existing home sales fell 2.2 percent in December but jobless claims also fell by 1,000 to 301,000 last week.

But investors are looking past the bad news. From MarketWatch:

U.S. stocks on Thursday reclaimed higher ground for a second day after the White House and the House leadership unveiled a tentative economic stimulus package, lifting an equities market recently battered by worries about an economic recession.

"Relief gains on Wall Street extended into the second straight session after confirmation of quick action on the fiscal stimulus plan, hopes for a rescue plan for bond insurers and a sharp drop in jobless claims encouraged investors to take a fresh look at stocks after their recent 20% correction," said analysts at Action Economics.

The Dow Jones Industrial Average rose 108.4 points to 12,378.6, with 21 of its 30 components ending higher...

In Europe, shares posted their sharpest one-day advance in nearly five years.

And it was not just stocks that gained.

On the New York Mercantile Exchange, crude futures climbed for the first time in three sessions, with crude for March delivery closing up $2.42, or 2.8%, at $89.41.

Elsewhere on the NYME, gold futures surged nearly 3% to trade above $900 an ounce, with gold for February delivery rising $22.70 to end at $905.80.

Investors also seemed to have taken the news of rogue trading at Societe Generale in their strides.

European stocks fall but US stocks finish strongly

Bailout news once again helped US stocks close strongly yesterday. MarketWatch reports:

U.S. stocks on Wednesday snapped a six-session losing streak, with the Dow Jones Industrial Average bouncing back from a 325-point deficit to end nearly 300 points ahead, as investors rushed into financial issues and bet on another rate cut by the Federal Reserve...

Also bolstering financials was the hope that struggling bond insurers might be saved through acquisitions or cash infusions orchestrated by regulators.

European stocks, which closed earlier, did not get the latter benefit and finished sharply lower. Bloomberg reports:

European stocks declined, resuming a rout that sent the Dow Jones Stoxx 600 Index into a bear market this week, on concern lower borrowing costs won't be enough to stave off a slowdown in earnings...

The Stoxx 600 lost 3 percent to 306.03. The gauge has extended declines from a 6 1/2-year high on June 1 to more than 20 percent, a magnitude that by common definition marks the beginning of a bear market, on concern the U.S. will enter a recession.

The ECB's apparent hawkishness didn't help. From Bloomberg:

European Central Bank President Jean- Claude Trichet said he's committed to fighting inflation, attempting to quash speculation he'll follow the U.S. Federal Reserve in cutting interest rates after stocks plunged.

"Particularly in demanding times of significant market correction and turbulences, it is the responsibility of the central bank to solidly anchor inflation expectations to avoid additional volatility," Trichet told the European Parliament in Brussels today.

In the real economy, there was evidence of further slowing in services but not in manufacturing. Bloomberg reports:

Growth in Europe's service industries, which account for about a third of economic output, cooled this month to the weakest in more than four years as the U.S. economy slowed, credit tightened and the euro neared a record.

Royal Bank of Scotland Group Plc's preliminary estimate of its services index dropped to 52, the lowest since August 2003, from 53.1 in December...

A gauge of manufacturing held at 52.6 in January, above the 52.1 median forecast of economists. A composite measure fell to 52.7 from 53.3, the lowest since June 2005.

Aggressive rate cuts also appear unlikely in the UK despite slowing growth. Reuters reports:

Interest rates are likely to come down next month to safeguard the economy but aggressive cuts of the kind announced by the U.S. Federal Reserve are not on the cards, the Bank of England signalled on Wednesday.

Minutes of the Bank's Jan 9-10 rate-setting meeting showed policymakers were having to balance risks to growth against rising price pressures, a dilemma also highlighted by Governor Mervyn King on Tuesday.

Speaking to a business audience in Bristol, King said Britain's economy faced its most challenging year in a decade but suggested rapid-fire interest rate cuts were not the answer to financial market woes...

Preliminary data showed Britain's economy grew 0.6 percent in the three-month period, easing from 0.7 percent in the third quarter but still recording the strongest full-year performance since 2004 -- growth of 3.1 percent.

Fed to the rescue

Apparently, there is a Bernanke put after all.

The Federal Reserve cut the target fed funds rate yesterday by 75 basis points to 3.5 percent. That had the desired effect on markets, as MarketWatch reports.

U.S. stocks fell for a fifth straight session Tuesday, but largely recovered from an opening rout sparked by a global sell-off as equities investors drew some reassurance from a massive, emergency interest rate cut by the Federal Reserve Board.

Down nearly 465 points after the open, the Dow Jones Industrial Average recouped the bulk of its early losses, and ended down by 128.1 points, or 1.1%, at 11,971.2, below the 12,000 mark...

Yields on 10-year Treasury bonds fell to 3.477%. The dollar dropped against its major counterparts, with the dollar index, which tracks the performance of the greenback against six other major currencies, down about 0.7% at 76.339.

Crude-oil futures trimmed earlier losses but still closed below $90 a barrel, with crude for March delivery off 71 cents, or 0.8%, at $89.21 a barrel on the New York Mercantile Exchange.

Elsewhere on the NYME, Gold futures gained $8.60 to end at $890.30 an ounce...

Overseas, European shares were bolstered by sharp gains in the banking sector after the Fed move, with the pan-European Dow Jones Stoxx 600 index ending up 2.4% to 316.17.

Willem Buiter got it right when he wrote yesterday before the Fed announcement:

Neither the ECB nor the Bank of England will panic at the sight of a large drop in global stock markets. I am less convinced of the sang froid of the Fed when faced with a chorus of Wall Street howls and whines. They could well be panicked into a 50 or even a 75 basis points cut in the Federal Funds target rate at their next meeting, or even arrange to have an interim meeting – a sure indicator of panic football.

In a later post after the Fed decision was announced, he calls the action "irresponsible".

This panic reaction is destabilising in the short run because it is likely to spook the markets. When the Fed loses its nerve, "things fall apart; the centre cannot hold". In the medium term it subordinates the price stability target to the real economic activity target. It also lays the foundations for the next credit bubble, after the recession of 2008 has become a distant memory.

James Hamilton appears to be more sympathetic.

... All the recent indicators have suggested a significant deterioration of real economic activity over the last two months. I take the global stock market sell-off as one more confirmation of that assessment, and new information about the global scope of the problems we face.

Nigel Gault says much the same thing.

The Fed's focus [on the weakening outlook for U.S. growth] makes sense, because although the plunge in global equity markets on Monday was the trigger for the Fed move, it was not the underlying cause. Both the financial markets and the Fed are responding to the increasing risk of U.S. recession and the danger that the United States will pull the rest of the world down.

The weakening in U.S. indicators since the beginning of the year has suggested that at least a mild U.S. recession is now more likely than not, and that vigorous Fed rate cuts are warranted. The plunge in global markets has prompted immediate action, instead of waiting until the next scheduled meeting on January 30.

All of which add weight to the view by Mike Larson that the "once in a lifetime low" yields of 2003 may be coming back.

In other central bank action yesterday, the Bank of Canada also cut interest rates at its scheduled meeting, lowering its target rate for overnight loans a quarter point to 4 percent. However, the Bank of Japan left interest rates unchanged.

Europe, emerging markets enter bear territory too

Following the mauling in Asia, it looks like the rest of the world's stock markets are falling into the bear's grip as well.

Bloomberg reports:

The MSCI World Index slumped the most since 2002...

The MSCI World slipped 3 percent to 1,395.29 at 5:38 p.m. in New York, extending its decline from an Oct. 31 record to 17 percent... Germany's DAX had its biggest loss since 2001. Futures on the Standard & Poor's 500 Index sank 4.5 percent...

The Stoxx 600 slid 5.7 percent, extending its drop from a 6 1/2-year high on June 1 to 23 percent. A decline of more than 20 percent is the common definition of a bear market. France's CAC 40 lost 6.8 percent. The U.K.'s FTSE 100 sank 5.5 percent, and Germany's DAX slid 7.2 percent...

The MSCI Emerging Markets Index, a global benchmark, sank 5.9 percent, extending its retreat from an October record to 20 percent. At least 36 countries around the world have fallen into bear markets, according to Bloomberg data.

Brazil's Bovespa index slid 6.6 percent, the most since Feb. 27. Russia's Micex Index declined 7.5 percent, the biggest drop since June 2006.

Canada's Standard & Poor's/TSX Composite Index had the biggest drop since February 2001, falling 4.8 percent.

Prices of oil and other commodities fell too, while the yen gained.

Asian stock markets enter bear territory

The fall in some Asian stock markets appear to be accelerating. Today from Bloomberg:

Asian stocks fell on concern the U.S. will enter a recession and slow global growth. Japan's Nikkei 225 Stock Average dropped to its lowest since October 2005, while Hong Kong's Hang Seng Index plunged the most since the September 2001 attacks...

The MSCI Asia Pacific Index lost 3.7 percent to 141.38 at 6:05 p.m. in Tokyo, heading for its lowest close since Aug. 17. The measure is entering its fourth week of losses, and has declined 18 percent since its Nov. 1 record...

Japan's Nikkei 225 dropped 3.9 percent to 13,325.94, the lowest since Oct. 25, 2005. The measure has retreated 27 percent since its record on July 9, 2007. Singapore's Straits Times Index slumped 6 percent, while India's Sensitive Index tumbled 7.4 percent, the most in the region.

Hong Kong's Hang Seng Index lost 5.5 percent, the biggest fall since the Sept. 11, 2001, attacks and extending its decline from its Oct. 30 high to 25 percent...

Hong Kong's fall from its peak is matched by Singapore's and is just a little less than the Nikkei 225's 27 percent fall from its peak in July 2007.

Fed rate cut: Another peep at 100 bp

I mentioned the possibility of a 100-bp cut in the fed funds rate by end-January on Tuesday. Well, according to traders, such a cut has just gotten a bit closer to reality. From Calculated Risk:

According to the Cleveland Fed, the market expects a 75 bps cut in the Fed Funds rate on January 31st, with the odds of a 100bps rate cut rising rapidly.

However, Tim Duy thinks the odds favour 50 bp.

Consumer confidence falls in Japan, rises in US

The economic news coming out of Japan continues to be disappointing. Reuters reports:

Japanese consumer confidence fell to a 4-1/2-year low in December as sharp sell-offs in Tokyo stocks and rising energy and grocery prices cut into householders' pockets...

The Cabinet Office survey's sentiment index for general households, which includes views on incomes and jobs, was 38.9 in December, the lowest since 36.0 in June 2003...

A Cabinet Office official said consumers' worries about prices going up in light of rising costs of raw materials such as oil was the main reason behind the sharp drop in sentiment.

The government appears to remain relatively optimistic though.

In a monthly report issued on Friday, the government stuck to its view that the economy is recovering despite some weakness but said a watch needs to be kept on how growing downside risks to U.S. growth could affect the Japanese and global economies...

Japanese wage earners' total cash earnings rose 0.1 percent in November from a year earlier, revised government data showed on Friday. The slight rise in November came after a 0.1 percent drop in October...

Separate government data showed on Friday that Japan's tertiary sector index of service industry activity rose just 0.1 percent in November from the previous month.

But if you are looking for consumer strength, it is usually better to look to the US. Yesterday's economic report from Bloomberg provided no exception.

Confidence among U.S. consumers rose in January as gasoline prices fell...

The Reuters/University of Michigan preliminary index of consumer sentiment climbed to 80.5, from December's 75.5 reading that was the lowest since 2005...

That's despite continuing deterioration in the US economic outlook.

... [T]he Conference Board reported its index of leading economic indicators dropped 0.2 percent in December, the third consecutive drop...

Over the last six months, the leading indicators index dropped at an annual pace of 1.6 percent, short of the approximate 4 percent to 4.5 percent drop Conference Board economists say signals recession.

But the economy is likely to be hit by further stress in the financial sector. From Bloomberg yesterday:

MBIA Inc. and Ambac Financial Group Inc., the two biggest bond insurers, have a more than 70 percent chance of going bankrupt, credit-default swaps show.

Prices for contracts that pay investors if Armonk, New York- based MBIA can't meet its debt obligations imply a 71 percent chance the company will default in the next five years, according to a JPMorgan Chase & Co. valuation model. Contracts on New York- based Ambac imply 72 percent odds.

Ambac shares have plunged 71 percent the past three days as the company scrapped plans to raise equity capital and Moody's Investors Service and Standard & Poor's put the insurer on review for a downgrade. Fitch Ratings cut Ambac's AAA guaranty rating today. MBIA has dropped 47 percent since Jan. 15. Credit-default swaps on the companies, which rise as confidence erodes, are trading at record highs.

Bernanke says no recession, stocks plunge

Fed chief Ben Bernanke said yesterday that there will be no recession in the US but wants a stimulus anyway. Reuters reports:

Factory activity in the U.S. Mid-Atlantic region contracted sharply in January and home building in December fell to the slowest pace since the early 1990s, according to reports on Thursday that reinforced fears of recession.

But Federal Reserve Chairman Ben Bernanke told lawmakers that even though the U.S. economy is facing difficulties, the Fed has not forecast a recession. He told a congressional committee that he supports efforts to craft a fiscal stimulus package and repeated that the Fed was ready to act aggressively to counter recession risks.

Details of the economic data released yesterday:

The plunge in the Philadelphia Fed's manufacturing index, to negative 20.9 in January from minus 1.6 in December, was far below even the most pessimistic Wall Street forecasts...

First-time claims for state unemployment insurance benefits fell for the third straight week, to 301,000 -- the lowest since Sept. 22 -- in the week ended Jan. 12. That was down from 322,000 the prior week, the department said...

U.S. home building projects started in December fell 14.2 percent while permits for future building hit a 14-year low, according to the Commerce Department report. Building permits fell 8.1 percent to an annual rate of 1.068 million, the slowest pace since a 1.056 million unit rate in March 1993.

Investors made up their own minds about the economy. From Bloomberg:

Growing conviction that the U.S. is in a recession sent stocks plunging in their worst three-day decline since 2002.

Exxon Mobil Corp., General Electric Co. and Bank of America Corp. led the drop after the Federal Reserve said manufacturing in the Philadelphia region slid to a six-year low and Merrill Lynch & Co. posted a loss double analysts' estimates. Ambac Financial Group Inc. and MBIA Inc., the two biggest U.S. bond insurers, retreated on concern their AAA credit ratings will be revoked. All 10 industry groups in the Standard & Poor's 500 Index, and 452 of its members, decreased.

The S&P 500 lost 39.95, or 2.9 percent, to 1,333.25 and is down 9.2 percent this year after tumbling 5.9 percent the past three days. The Dow Jones Industrial Average decreased 306.95, or 2.5 percent, to 12,159.21. The Nasdaq Composite Index slid 47.69, or 2 percent, to 2,346.9. More than seven stocks fell for every one that rose on the New York Stock Exchange...

Treasuries rose, with the yield for the benchmark 10-year note dropping 13 basis points, or 0.13 percentage point, to 3.61 percent, the biggest decline since Dec. 11. It touched 3.60 percent, the lowest since July 2003.

Inflation remains a bit hot

Reuters reports yesterday's economic reports from the US.

The Labor Department said on Wednesday its Consumer Price Index rose 0.3 percent in December, less than half November's 0.8 percent jump. For all of 2007, the CPI rose 4.1 percent, well ahead of 2006's 2.5 percent gain and the steepest since 1990.

The Fed will take comfort from the fact that core CPI inflation moderated slightly.

... The so-called core CPI, which strips out volatile food and energy items, was up 0.2 percent in December after a 0.3 percent November increase, which some analysts said was a reassuring sign that price pressures might be easing, even if it was running a bit hot for some Fed policy-makers.

And a slowing economy should keep inflation in check.

Separately, the Federal Reserve said output by the nation's mines, factories and utilities was flat in December and in 2007 posted its weakest gain since 2003...

The Fed's latest Beige Book, an anecdotal summary of conditions across the country, found the economy was still growing in the final weeks of 2007 but at a weaker pace and with signs of rising stress among consumers...

The NAHB/Wells Fargo Housing Market index rose 1 point from December to 19, with builders citing a glut in homes for sale and tight financing conditions...

Meanwhile, inflation in the euro zone in December was confirmed at 3.1 percent yesterday.

In the UK, inflation looks unlikely to moderate very soon after figures yesterday showed wage growth held firm at the end of last year and the number of people claiming jobless benefit fell to its lowest since 1975. On Tuesday, the UK had reported that consumer prices rose 0.6 percent in December, the biggest monthly gain in a year, leaving the annual rate at 2.1 percent.

And from New Zealand today comes news that inflation accelerated in the fourth quarter, with consumer prices rising 1.2 percent from the third quarter.

Bloodbath in stocks continues in Asia

From Bloomberg:

The MSCI Asia Pacific Index tumbled 3.4 percent to 145.51 at 7:10 p.m. in Tokyo, its lowest close since Aug. 22. More than 10 stocks declined for every one that rose, with a measure of financial companies the biggest drag on the index.

Hong Kong's Hang Seng Index dropped the most since Sept. 11, 2001. Both the Hang Seng and Singapore's Straits Times Index have slumped more than 20 percent from their October peaks, a drop some traders consider as a bear market.

Japan's Nikkei 225 Stock Average slid 3.4 percent to 13,504.51, its lowest close since October 2005 and the worst start to a year since Bloomberg began tracking the data from Jan. 6, 1970.

The MSCI World Index has decreased 6.9 percent in 2008, wiping out $2.1 trillion from its members' market capitalization amid speculation the U.S. will fall into recession as losses related to mortgage defaults spread.

The Kospi index fell 2.4 percent in Seoul after South Korean department store sales declined for the first time in seven months. Australia's S&P/ASX 200 Index slipped for an eighth day in its longest sell-off in more than seven years, as consumer confidence dropped in January by the most in 14 months. All national benchmarks in Asia fell, except Vietnam's.

The economic reports from Japan today did not help.

Japan's machinery orders fell in November as companies pared spending in anticipation the U.S. slowdown will spread to Asia and hurt exports.

Orders declined 2.8 percent from October, when they rose 12.7 percent, the Cabinet Office said in Tokyo today...

Producer prices rose 2.6 percent in December from a year earlier, the fastest pace since September 2006...

Consumers last quarter became the most pessimistic about the economy since March 2003, a Bank of Japan survey showed today. Some 86 percent of respondents predicted prices will rise this year, the highest proportion since the central bank started asking people about inflation expectations in 1997...

The current account surplus widened 2.1 percent in November, the Finance Ministry said today, as exports to China and other emerging markets compensated for slowing U.S. demand.

And speaking of China, that country chose a "good" time to tighten policy further today.

China ordered banks to set aside larger reserves and imposed price curbs on grain, meat and eggs to try to prevent inflation at an 11-year high from triggering civil unrest.

Lenders must park 15 percent of deposits with the central bank from Jan. 25, the People's Bank of China said today on its Web site, up from 14.5 percent. The ratio is the highest in at least 20 years.

US retail sales, Citigroup hit markets

There was more evidence yesterday that the US economy could be headed for a recession. From Bloomberg:

Sales at U.S. retailers unexpectedly dropped in December, capping the weakest year since 2002 and pushing the economy closer to a recession.

Sales fell 0.4 percent, the first retreat since June, the Commerce Department said today in Washington. Separate figures from the Labor Department showed producer prices eased at the end of a year that saw the biggest annual jump in more than a quarter century.

Markets reacted as expected.

The figures pushed stocks lower, further weakened the dollar and led to a gain in Treasury notes. The Standard and Poor's 500 Consumer Discretionary Index, which includes Target Corp., Lowe's Cos. and Tiffany & Co., dropped 2.3 percent to close at 235.62 in New York.

But markets were also reacting to the distress in the banking sector, as highlighted by the loss reported by Citigroup yesterday.

And it wasn't just US markets that reacted. As Reuters reports, European stock markets suffered too.

Banks led European shares to their lowest close in 15 months on Tuesday as Citigroup's record quarterly loss amplified concern over the probability of a U.S. recession and monthly retail sales staged a shock fall.

The broader European market witnessed its worst one-day decline since mid-August as shares in everything from financials to defensives took a beating and every major Western European index was in the red.
The FTSEurofirst 300 index of top European shares ended down 2.57 percent at 1,395.39 points, its worst close since early October 2006.

Cut in fed funds rate: 50 bp? 75 bp? How about 100 bp?

As the market starts to price in the possibility of a 75-bp cut in the fed funds rate, the US dollar is taking it on the chin. From Bloomberg:

The dollar fell for a fourth day against the yen and traded near a record low versus the euro on speculation a report will show U.S. retail sales stalled, threatening to end a six-year economic expansion.

The dollar declined versus 12 of the 16 most-active currencies as traders increased bets the Federal Reserve will cut rates by 0.75 percentage point on Jan. 30, the biggest reduction since 1984. The yen also rose on speculation slowing global growth will cause Japanese investors to pare purchases of overseas assets...

Retail sales were probably unchanged last month, after rising 1.2 percent in November, according to the median forecast in a Bloomberg survey before the Commerce Department releases the data at 8:30 a.m. in Washington...

Fed funds futures contracts on the Chicago Board of Trade show 100 percent odds the Fed will cut its target rate for overnight bank loans to at least 3.75 percent at its Jan. 30 meeting. The odds have risen from no chance a month ago. The odds of a decrease to 3.5 percent are 50 percent, compared with zero probability a week ago.

And this is even drawing an ECB official out to comment on the US dollar. From Ambrose Evans-Pritchard at the Telegraph:

Lorenzo Bini-Smaghi, a member of the European Central Bank's executive council, warned that the tumbling dollar may now start to foreclose the option of US rate cuts and force the Fed to keep monetary policy tighter than it would like.

"I would not be so sure about the movements of the Fed. There is a serious problem with the dollar in America. We will see what margins they have for further rate cuts," he told Italy's La Repubblica newspaper.

As if that's not enough, HSBC has brought up the possibility of the fed cutting rates by 100 bp by the end of January.

[HSBC's] highly-rated New York economist, Ian Morris, said a new tone of urgency had been struck by top US officials over recent days, raising the possibility of two sets of cuts this month...

HSBC said the Fed had now raised expectations so far that it risks setting off fresh "financial stresses" if it fails to deliver a serious shot in the arm.

"If the Fed were to cut inter-meeting, we think it would by 50 basis points, followed by another 50 basis points on the 30th," it said. The bank said this is a possibility, not a hard forecast.

Higher inflation in Australia to signal more rate hikes

Lots of inflation data this week, and Australia sets the ball rolling with a hot set of numbers today.

The Sydney Morning Herald reports:

The private sector TD Securities-Melbourne Institute monthly inflation gauge released today reflected a rise of 0.6 per cent in December, following consecutive 0.3 per cent rises in October and November.

The inflation gauge also rose by 3.7 per cent over the year, following a 3.4 per cent advance in the 12 months to November...

"Not only has inflation pressure remained strong, it intensified in December,'' TD Securities senior strategist Joshua Williamson said.

That suggests at least another interest rate hike from the central bank.

"Resilient domestic data and confirmation of an inflation break-out strongly advance the case for an increase in interest rates at the February RBA board meeting, even with the financial markets pricing in the risk of a US recession,'' he said.

"It would seem that only a bout of even more intense market weakness stands in the way of an interest rate rise on February 5.''

Apparently many others agree. From Bloomberg:

Australia's central bank may raise the benchmark interest rate in the first quarter of 2008 to quell inflation, economists say.

Governor Glenn Stevens and his board will increase the overnight cash rate target by a quarter-point to 7 percent, according to 15 of 25 economists surveyed by Bloomberg News. Policy makers meet to decide on rates on Feb. 5 and again on March 4.

Oil hits US and Chinese trade balances

The US may be facing a slowdown but its trade deficit continues to widen. Reuters reports:

The U.S. trade deficit jumped in November to its highest level in 14 months as surging oil prices overpowered a ninth consecutive month of record exports, the Commerce Department said on Friday.

The trade gap widened 9.3 percent to $63.1 billion, the largest month-to-month gain in more than two years...

Although total imports of goods and services increased 3 percent in November to a record $205.4 billion, oil prices were mostly to blame for the spike in the deficit, U.S. Commerce Secretary Carlos Gutierrez said in an interview...

U.S. exports of goods and services hit a record $142.3 billion in November, but grew only 0.4 percent compared with about 1 percent in the prior two months -- suggesting a slowdown in foreign demand for U.S. goods despite the cheap dollar.

As Brad Setser highlights, the higher price of oil has also been a factor in moderating China's trade surplus. Reuters reports the Chinese trade data:

China's trade surplus for all of 2007 jumped to a record of more than $262 billion...

The surplus for December alone came in at $22.7 billion, below forecasts of $24.5 billion and well down on October's record $27.1 billion, while imports grew faster than exports for the third month in a row...

For 2007 as a whole, export growth slowed by 1.5 percentage points while import growth picked up by 0.9 percentage point, boosted by soaring prices for commodities such as oil and soybeans.

BoE, ECB leave rates unchanged, Fed likely to cut

There was no change in interest rates yesterday from the BoE.

Nor from the ECB, although there was some tough talk from the ECB president. From Bloomberg:

European Central Bank President Jean-Claude Trichet signaled the bank won't cut interest rates and may raise them to contain inflation even as economic growth slows.

The ECB's Governing Council is "prepared to act preemptively so that second-round effects and risks to price stability do not materialize," Trichet said at a press conference in Frankfurt today after the bank kept its benchmark interest rate at 4 percent. He said policy makers will "not tolerate" an inflation spiral of rising prices and wages.

There was no such tough talk from Fed chairman Ben Bernanke yesterday. From Bloomberg:

Federal Reserve Board Chairman Ben S. Bernanke said more interest-rate cuts "may well be necessary" after 1 percentage point of reductions since September to buttress economic growth.

"We stand ready to take substantive additional action as needed to support growth and to provide adequate insurance against downside risks," Bernanke said today in his first speech on the economy since the Fed's Dec. 11 meeting. Recent figures suggested the outlook for "2008 has worsened and the downside risks to growth have become more pronounced," he said.

The signal from Bernanke appears clear enough.

"From the tone of the speech, a 50-basis point cut seems likely," Lawrence Lindsey, a former economic adviser to President George W. Bush and ex-Fed governor, said from New York. Though it's "unlikely" the U.S. is in recession, Bernanke "is quite right to take precautionary measures right now," he said...

Futures prices indicate the odds of a half-point rate cut on Jan. 30 jumped to 90 percent today from 76 percent yesterday and 34 percent a week ago. Futures show a 100 percent chance of at least a quarter-point reduction.

Dow down in first week's trading, economic data not encouraging

With one full week of trading in 2008 done, the US stock market clearly hasn't made a good start to the year. MarketWatch reports:

U.S. stocks plunged Tuesday, led by a 17% drop in shares of Countrywide Financial Corp. amid swirling bankruptcy speculation, leading the Dow industrials to have their worst first five trading days of the year ever...

Up more than 100 points during the session, the Dow Jones Industrial Average ended 238.4 points lower to 12,589.1, with 25 of its 30 components declining...

Following Tuesday's performance, the Dow has now lost 675 points since the start of the year, marking its worst performance ever for the first five trading days of the year. Percentage wise, the Dow has lost 5.1%, its worst drop since 1978, when the blue-chip index lost 5.6%...

On the New York Mercantile Exchange, crude-oil futures ended up $1.24 at $96.33 a barrel.

Elsewhere on the Nymex, gold futures surged to a new all-time high, with the contract for February delivery hitting $884 an ounce in electronic trade.

Yesterday's US economic data didn't look too encouraging. From Bloomberg:

The National Association of Realtors' index of pending home sales decreased 2.6 percent to 87.6, following a 3.7 percent gain in October that was larger than previously estimated, the group said today in Washington...

Consumer credit increased $15.4 billion for the month to $2.51 trillion, after rising $2 billion in October, the Fed said.

And things are not looking much better in the UK:

U.K. retail sales rose at the slowest pace since March 2006 and house prices declined for the first quarter in seven years, adding to the case for the Bank of England to cut interest rates again.

Revenue at stores open at least 12 months increased 0.3 percent from a year earlier in December, the British Retail Consortium said in London today. Home values fell 0.8 percent in the fourth quarter, the first drop since 2000, according the HBOS Plc, the country's biggest mortgage lender...

Gross mortgage lending fell 10 percent in November from the previous month to 30 billion pounds ($59 billion), the Council of Mortgage Lenders said in a report today. On the year, lending was down 9.6 percent.

Nor in the euro area:

Retail sales declined 1.4 percent in November from a year earlier, the biggest drop since at least 1997, the European Union's statistics office in Luxembourg said today. From the previous month, sales fell 0.5 percent, the third decline in four months. Economists had forecast a 0.5 percent increase, based on the median of 13 forecasts in a Bloomberg News survey.

But on the bright side, German manufacturing orders did rise 3.4 percent in November.

Eurozone confidence falls, producer price inflation rises

Confidence in the eurozone economy fell in December. Bloomberg reports:

An index of executive and consumer sentiment in the euro area slipped to 104.7, the lowest since March 2006, from 104.8 in November, the European Commission in Brussels said today...

The decline, however, was less than expected, and unlike in the US, the labour market is not pointing towards weaker growth.

The decline in the confidence index was less than economists forecast, based on the 104.3 median of 21 estimates in a Bloomberg survey. A separate report today showed that unemployment in the euro region remained at a record low of 7.2 percent in November.

That leaves inflation still a concern.

Gauges of potential future prices in today's report may heighten concern among central bankers that accelerating inflation could trigger larger wage increases...

An index of manufacturers' selling-price expectations increased to 13 last month from 12 in November, while consumers' inflation expectations held at 28, which economists at ING Group said is "well above the long-term average of 23"...

Separately, producer prices rose an annual 4.1 percent in November, the most since they increased by the same margin in December 2006. The gain was above the 3.3 percent of October and the 4 percent median forecast in a Bloomberg survey of economists...

The recent "substantial increase" in oil and food prices is "having a strong upward impact on inflation," ECB President Jean-Claude Trichet said Jan. 5, adding that the economy faces a "more protracted" period of elevated inflation than previously expected.

It's beginning to look like recession

The latest economic indicators show that the United States economy is moving very close towards a recession, if it is not already in one. The rest of the world economy, however, continues to expand.

On Friday, the US Labor Department reported that non-farm payrolls in the US rose by 18,000 in December, the weakest job growth since August 2003. Private-sector payrolls fell by 13,000, the first decline in more than four years. The household survey showed employment plunging by 436,000, the biggest decline in five years.

The employment report reinforced data earlier in the week indicating weak US economic growth. On Wednesday, the Institute for Supply Management reported that its manufacturing PMI had fallen to 47.7 in December from 50.8 in November, indicating that manufacturing activity in the US has shrunk. The non-manufacturing index released on the same day as the employment report showed a smaller drop to 53.9 in December from 54.1 in November.

Wider leading indicators have also been pointing to a slowdown in the US economy.

Last month, the Conference Board reported that the US leading index decreased 0.4 percent in November. From May to November, it had fallen 1.2 percent, the largest six-month decrease in the index in six years.

Last week, the Economic Cycle Research Institute reported that its Weekly Leading Index inched up to 135.1 in the week to 28 December from 135.0 in the prior week. However, the annualised growth rate fell from -5.2 percent to -6.2 percent, the lowest rate of growth since November 2001.

One major economic indicator that did rise recently provided absolutely no consolation whatsoever. The unemployment rate went up to 5.0 percent in December from 4.7 percent in November. It has now risen 0.6 percentage point from its bottom at 4.4 percent in late 2006 and early 2007. The US labour market does look as though it is beginning to break, a classic sign of a recession.

The employment report hit markets hard on Friday. Stock prices fell, the Standard & Poor's 500 falling 2.5 percent. Bond yields and oil prices also fell.

Investors obviously felt that the report significantly added to the probability that the US economy is falling into recession. Traders are now betting that the Federal Reserve will cut rates by at least 25 basis points and possibly 50 basis points at the Federal Open Market Committee meeting at the end of January. However, at the rate at which the economy is slowing, it is not at all clear that rate cuts at this point in time will be able to prevent a recession.

In the meantime, though, most other major economies have not shown the same degree of deceleration as that of the US. The latest purchasing managers' indices from the euro area, for example, showed that the manufacturing index slipped to 52.6 in December from 52.8 in November while the services index fell to 53.1 in December from 54.1 in November, but both indices remained above 50, indicating continued expansion. Japan's manufacturing PMI even improved, rising to 52.3 in December from 50.8 in November.

As a result, the JPMorgan Global All-Industry Output Index fell again in December to 53.5 from 54.0 in November but remained above 50. Indeed, all the major sub-indices remained above 50, indicating that global economic activity continued to expand in December.

		November	December
Output	Total	54.0	53.5
	Manufacturing	53.4	52.2
	Services	54.2	53.8
New orders	Total	52.5	52.6
	Manufacturing	53.3	51.4
	Services	52.3	53.0

To what degree the rest of the world follows the path of the weakening US economy could also depend on whether recent credit market turbulence persists.

Here, recent developments have been hopeful. There are some indications that credit markets are stabilising, with the Federal Reserve last week reporting some pick-up in the US asset-backed commercial paper market, money market rates falling and credit spreads backing off from the highs of December.

Nevertheless, more losses among banks from write-downs of asset values as a result of the credit market turmoil are still likely in the coming months. This, at a time of reintermediation of the banking system, could strain bank balance sheets and induce them to curtail lending.

Coming at a time when the US economy is already struggling to keep its head above water, that could yet prove fatal to the prospect of avoiding a recession.

Markets hit as US employment data raise recession fears

Stock markets sank yesterday. MarketWatch reports:

U.S. stocks on Friday sank for a third time this week, with the Nasdaq Composite Index hit with its steepest drop since Feb. 27, 2007, after a jump in unemployment spelled a likely recession for investors...

The Dow Jones Industrial Average fell 256.5 points, or 2%, to 12,800.2, with 29 of the blue-chip index's 30 components finishing in the red, giving the Dow a weekly fall of 4.3%...

Broader equities indexes declined as well, with the S&P 500 Index dropping 35.53 points, or 2.5%, to 1,411.63, translating into a 4.5% decline from a week ago.

Down for a sixth consecutive session, the Nasdaq was slammed the hardest, shedding 98.03 points, or 3.8%, to 2,504.65, with the tech-heavy index falling to lows not seen since the end of August.

Many other stock markets outside the US also plunged yesterday.

In Europe, stocks turned sharply lower after the U.S. jobs data, with the automotive sector under particular pressures.

In Asia, Japanese stocks were hard hit as Nissan Motors and other exporters took heavy losses amid worries about the health of the U.S. economy.

Stocks weren't the only ones to lose ground.

After rising to a record intraday high of $100.09 a barrel on Thursday, crude pulled lower as worries about the economy sparked thoughts of reduced demand.

Oil futures ended $1.27 at $97.91 a barrel on the New York Mercantile Exchange.

And the news that sparked it all:

Ahead of Wall Street's opening bell, the Labor Department reported U.S. seasonally adjusted nonfarm payrolls climbed by 18,000 in December, the weakest growth since August 2003. Read more.

Stocks retained their losses after the Institute for Supply Management reported its nonmanufacturing index fell to 53.9 in December from 54.1 in November. Read Economic Report.

Meanwhile, apart from the prospects of slower growth, Europe also has other worries. From Bloomberg yesterday:

The inflation rate in the euro area was 3.1 percent, unchanged from November and the highest since May 2001, the European Union's statistics office in Luxembourg said today. The rate has never been higher since the launch of the euro in 1999...

While some of the ECB's Governing Council members wanted to increase borrowing costs last month to curb inflation, according to ECB President Jean-Claude Trichet, slowing economic growth is restraining their capacity to raise interest rates. Europe's service industries grew at the slowest pace in two and a half years in December, and French consumer confidence unexpectedly dropped to a 19-month low.

Not so gloomy

Yesterday's economic reports painted a mixed picture of the US economy. From Reuters:

U.S. private-sector job growth slowed in December and the number of people receiving jobless benefits hit a two-year high in late December, reports released on Thursday showed.

Even so, U.S. stocks rose as traders worst fears about the jobs data did not materialize and raised hopes the economy may avoid a recession...

ADP...said U.S. private employers added 40,000 jobs in December...

First-time applications for state unemployment insurance fell to a seasonally adjusted 336,000 last week, from 357,000 the prior week, the government said.

In contrast with the previous day though, there was a positive surprise in manufacturing.

In another government report, new orders at U.S. factories surged a larger-than-expected 1.5 percent in November on a big rise in orders for nondurable goods, the Commerce Department said.

And more contrast comes from the employment trend in Germany. From Bloomberg:

Germany's unemployment rate fell to the lowest in almost 15 years in December as manufacturers of cars and industrial equipment hired staff to work off a backlog of orders.

The jobless rate, adjusted for seasonal swings, slid to 8.4 percent, the lowest level since March 1993, the Federal Labor Office in Nuremberg said today. The adjusted number of people out of work fell by 78,000 to 3.51 million, more than double the decline of 35,000 that economists expected, according to the median forecast in a Bloomberg survey.

This, together with a report that eurozone M3 money supply grew 12.3 percent in November from a year earlier, suggests that the ECB's fight against inflation may not be over.

US slowdown pulls down global manufacturing, Asian economies

Global manufacturing slowed in December with the US the chief culprit behind it. Reuters reports:

The JP Morgan Global Manufacturing PMI slipped to 51.4 in December from 52.2 in November. But while growth slowed, input prices faced by factories rose to a six-month high.

The global input prices index edged up to 67.2 in December from 67.0 the previous month, with inflation the fastest since June in the U.S.

Earlier on Wednesday the U.S. ISM Manufacturing index for December sank to its lowest level since April 2003 at 47.7 from 50.8, sending the dollar lower and U.S. Treasury debt prices up.

The ISM index indicates that US manufacturing shrank but not necessarily the US economy. The Singapore economy appears not to have been so lucky. From AFP/CNA:

Singapore's economy grew at a slower-than-expected 6.0 per cent in the fourth quarter...

On a quarter-on-quarter seasonally adjusted annualised basis, real GDP fell by 3.2 per cent in the quarter compared with a 4.4 per cent gain in the preceding quarter, reflecting a slowdown in the manufacturing sector, the ministry said.

In a further blow to the decoupling thesis, South Korean exports slowed in December. From Bloomberg yesterday:

South Korean exports expanded less than expected in December as a slowdown in demand from the U.S. and Japan tempered rising sales to China and the Middle East.

Overseas shipments advanced 15.5 percent to $33.2 billion from a year earlier, following a 17.1 percent increase in November, the Commerce Ministry said today in Gwacheon. That was lower than the median estimate of 20.2 percent, according to a Bloomberg News survey of five economists.

This is the latest sign Asia's export-dependent economies are at risk from a cooling global expansion, and follows figures today that showed Singapore's economy unexpectedly contracted last quarter. Finance Minister Kwon Okyu trimmed his 2008 economic-growth forecast, citing rising oil costs and fallout from the U.S. housing recession on the world's economies.

After five-year run, stock market bull looks tired

Stock markets on the whole saw another year of gains in 2007, extending the bull run in stocks to a fifth year. However, the bull began to look tired towards the end of the year. 2008 is looking as though it is going to be a difficult year for stock investors.

According to the Morgan Stanley Capital International indices, the fifth year of the global bull market in stocks was led, among the large developed markets, by the German stock market. Japan's market lagged with a decline. The following table shows the gains among the developed markets in local currency as well as US dollar terms.

	Local currency (percent)	US dollars (percent)
USA	4.1	4.1
Japan	-11.3	-5.4
UK	3.0	4.7
Germany	19.5	32.5
France	0.0	10.9

Some of the biggest gains though were in emerging markets, including the so-called BRIC.

	Local currency (percent)	US dollars (percent)
Brazil	46.2	75.3
Russia	21.2	22.9
India	52.5	71.2
China	63.5	63.1

The gains in stock prices in 2007 mean that the Morgan Stanley Capital International World Index has doubled over the past five years in US-dollar terms, rising at a rate of 14.9 percent a year.

However, the bull market in stocks may have come to an end. Most markets ended 2007 on a weak note. In the last quarter of the year, the World Index fell 2.7 percent.

The headwinds for stocks that became evident in the latter half of 2007 are likely to persist going into 2008.

The global economy is likely to slow, partly due to past monetary policy tightening by central banks but also due to the turmoil that hit credit markets in the latter half of 2007. The United States economy in particular is expected to slow sharply towards the end of 2007 and in early 2008 -- some economists even think a recession is likely -- and pull other economies down with it.

Even as demand slows, however, inflation remains persistent in most economies, keeping business costs up and thereby putting pressure on profit margins. Corporate profits are currently expected to continue growing in 2008 but it is not unusual for profit estimates to see substantial downward revisions at the end of the business cycle.

Apart from the threat of shrinking corporate profits, the credit squeeze could also drag stock prices down directly by choking off the amount of liquidity available for stock market investments.

With the prospect for such a double-whammy, there is a real possibility that 2008 could see a bear market in stocks.

What could stave off a bear market, or at least limit the extent of price falls? The usual saviour of stock markets: interest rate cuts.

Policy interest rates peaked in 2007. In the face of the credit market turmoil, central banks have shifted their stances from tightening to easing despite persistent signs of inflation in the economy.

The Federal Reserve was the first of the major central banks to ease monetary policy, cutting interest rates by 50 basis points in September and following up with another 50 basis points of cuts over the next three months. The Bank of England and the Bank of Canada have since followed, cutting rates by 25 basis points each in December.

While the European Central Bank and the Bank of Japan have held firm on interest rates so far, they have at least shown themselves to be ready to inject liquidity into markets as and when needed to ease market turbulence.

Nevertheless, investors would do well to remember that in the wake of the bursting of the technology bubble in 2000, it took almost three years of price falls and two years of rate cuts before stock markets found a bottom.

With a mountain of mortgage and other debts accumulated over the past few years -- many expected to go bad over the coming months -- global markets could face similar difficulty shaking off the latest bout of financial stress.