Central banks take action, again

The events of the week were central bank actions and U.S. job data.

Entering the week markets had already largely priced in further policy easing by the Bank of England (BoE) and the European Central Bank (ECB). Eurozone data showed that factory output remained weak, purchasing managers index remained in contraction area and unemployment had hit a record. Also, recent data had confirmed that the UK economy was sliding back into recession. Therefore, Thursday it came as no surprise that both the ECB and the BoE took action.

BoE expanded its asset purchase facility by British pound (GBP) 50bn to GBP 375bn, exactly as expected.

ECB cut its refinancing rate by 25 basis point to 0.75% and lowered its deposit rate to zero. As a consequence the euro (EUR) sank below 124 US dollar (USD).

The Danish National Bank (DNB) followed suit and lowered both the lending and the deposit rate by 25 basis points. The latter now stands at minus 0.20%. It’s the first time in the history of the DNB that the deposit rate is negative and it mirrors a healthy Danish economy.

Surprisingly, the Spanish and Italian bonds reacted negatively on the rate cuts. The reason could be that the market now think it’s less likely that a third long-term refinancing operation is forthcoming.

What the market had not anticipated was an action from the People’s Bank of China (PBoC). Unexpectedly, PBoC cut its interest rate for the second time in the space of a month. Possibly, an indication that Chinese policymakers are concerned that the economy has not yet found a bottom.

In the U.S. there is also speculation that a central bank action could be coming in the form of a third round of quantitative easing (QE3). Lately, we have seen a weak report from the Institute of Supply Management (ISM), indicating the first contraction in manufacturing activity for nearly three years. Also, the non-farm payroll data released today showed 60,000 new jobs created in June compared to an estimate of 100,000. The initial market reaction was a weakening of the EUR vs. the USD which might indicate reduced expectations of a QE3.