Bruised markets look to Fed for monetary balm

9th August 2011, Comments 0 comments

Bruised financial markets looked Tuesday to the US Federal Reserve for signs of monetary stimulus as political leaders tried to restore trust in their ability to tackle dogged deficit and debt woes.

A Federal Open Markets Committee meeting was the focus of investor's attention, though some economists doubted that the central bank was ready to unveil a third round of bond purchases known as quantitative easing (QE).

Eurozone bond purchases by the European Central Bank eased pressure on governments in Italy and Spain, meanwhile.

But major stock markets continued to post losses, on top of sharp drops on Monday and last week.

In the first comments by Chinese officials since an historic US credit ratings cut last week, Premier Wen Jiabao urged "relevant nations" to take "concrete and responsible fiscal and monetary policies" to restore investor's trust.

China is the largest holder of US debt and has begun to criticise Western countries that have run up heavy debt and deficits, but Chinese inflation was also a key factor behind the stock market slump on Tuesday.

At 6.5 percent, the highest level in three years, inflation raised the odds of interest rate hikes that would curb activity in the world's second biggest economy.

Attempts by US President Barack Obama and other global leaders to restore trust had some effect as markets posted gains or at least trimmed losses that were driven by fears of a new recession.

On Wall Street, the Dow Jones Industrial Average surged by two percent in early trading.

European stock markets were mixed in volatile afternoon trading, with London up by 1.16 percent, Frankfurt close to flat and Paris up 0.99 percent, after showing losses of up to five percent earlier in the day.

In Spain, Finance Minister Elena Salgado told Onda Cero radio the eurozone would undoubtedly meet on the financial crisis in early September.

"We have been holding telephone conversations and we will no doubt hold a meeting in the first days of September," Salgado said.

ECB president Jean-Claude Trichet insisted again Tuesday that governments had to cut public deficits and restore sound finances.

"We expect governments to do what we consider to be their work, their duty," Trichet told Europe 1 radio in France.

A subject of growing concern in Europe were the debt ratings of Britain, and of France which would have to make a major contribution to a hike in emergency lending to Italy and Spain, seen as the next most at risk eurozone countries.

"Growing concerns about Frances fiscal position have underlined the breadth of the eurozones debt crisis," said Jennifer McKeown, senior economist at Capital Economics.

"A credit rating downgrade would significantly hamper policymakers ability to provide crucial support to the eurozones periphery," she noted.

French 10-year bonds were offered on Tuesday with a yield of 3.217 percent, or 0.86 percentage points more than benchmark German bunds at 2.355 percent

The yield on Spanish and Italian bonds eased to 5.063 percent and 5.202 percent respectively from 5.138 percent and 5.277 percent late on Monday, as the ECB was understood to be buying in the market.

An irony of the US debt crisis is that US debt continues to benefit from its safe-haven status, with investors prefering to park funds in Treasury paper than risk losses elsewhere.

Eurozone banks have also resorted to parking large amounts of surplus cash with the ECB, accepting low rates rather than lending among themselves.

On Monday, Obama sought to convince markets that a US downgrade by Standard & Poor's from the top rating of AAA to AA+ did not reflect the true state of the world's biggest economy.

The US president insisted that the United States "always will be a triple-A country."

He also spoke with leaders in Italy and Spain on ways to fight the financial market crisis, but until political measures were ready, Berenberg Bank chief economist Holger Schmieding called for quick action by the Fed, ECB and other central banks.

He urged Fed chairman Ben Bernanke to disregard "objections from US hardliners" in the opposition Republican Party and seriously mull implementation of QE3.

© 2011 AFP

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