PBOC cuts rates, focus switches to Eurozone inflation

Traders should brace themselves for a busy and volatile week in the financial markets, as a large number of important economic indicators are released from across the globe while central banks from the Eurozone, UK, Canada and Australia announce their latest monetary policy decisions.

The People’s Bank of China announced its second rate cut in three months over the weekend, cutting rates by another 25 basis points to 5.35% in a desperate attempt to reduce the cost of funding for companies. The rising interbank repo rate is making financing conditions increasingly difficult which is a serious threat to growth in China. It is already facing the prospect of growth falling below 7% this year, the level many expect to be announced as this year’s target following the National People’s Congress which gets underway this week, and increasingly tough financial conditions is only going to make matters worse.

The official manufacturing PMI further highlighted the need for additional monetary support. The February reading, released over the weekend, was marginally better than expectations, coming in at 49.9, but remained in contraction territory for a second month. Given the importance of the manufacturing sector to China, this is a major concern. The HSBC release may have eased some of those concerns, rising to a seven month high of 50.7, except for the fact that it, like the official release, showed the same worrying decline in export demand, something the country has relied on for growth.

We know that China is attempting to move away from the export and investment driven growth model, but the process is meant to be quite gradual so in the near term, a threat to both of these, combined with the low inflation environment, is going to be a massive test for both the government and the central bank. The lack of movement in the markets following the surprise rate cut from the PBOC is a sign of the task ahead from an investors stand point. They clearly believe that this rate cut will be insufficient and much more needs to be done.

While the early part of the first week of the month can sometimes be a little subdued, as traders show a little caution ahead of the ECB meeting on Thursday and the US jobs report on Friday, I’m not sure this week will be the same. The release of the Eurozone flash CPI reading this morning certainly has the potential to cause a stir, with deflation in the region seen as one of the biggest threats to growth and the future stability of the monetary union. With the ECB having already announced the quantitative easing package at its January meeting I doubt it will have a big impact on Thursday’s meeting, but further decline in the rate may force the ECB into even bolder action.

Manufacturing PMI readings from both the UK and the US will also be in focus on Monday, along with inflation and personal income and spending data from the latter. This evening we’ll get the latest monetary policy decision from the Reserve Bank of Australia which could bring with it the second rate cut of the week, following the PBOC’s steps over the weekend. This would be the second rate cut in as many months from the RBA, bringing the rate to a new all-time low of 2%.

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