Inside Insights 22 March 2011

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Added on 22 March 2011 @ 10:21 AM

MORE MARKET AFTERSHOCKS

Following the devastating earthquake and tsunami, financial markets in and outside Japan have fluctuated wildly. Reportedly some $600bn was wiped off the Tokyo Stock Exchange between Friday and Wednesday (shares rebounded somewhat towards the end of the week). This was surely an overreaction, as is typically the case with natural disasters, even ones that cause widespread loss of life. The real uncertain factor has been the possibility of meltdown at the Fukushima Dai-chi nuclear plant. Several other nuclear reactors have also been shut down in Japan, meaning the country is desperately short of electricity. This could lead to higher demand for fossil fuels (oil and gas) in the short term (at a time when Western attacks on Libya have pushed oil prices up again).

The direct economic cost of any disaster is obviously the destruction of physical infrastructure, housing, factories etc., lost output and loss of skills. Because of the recent recession, capacity utilisation in Japan is low (and unemployment high), meaning firms can move production to other plants (Japan suffered the deepest recession of all the major advanced economies, losing 10% of GDP in 2008 and 2009). But the supply of electricity is an immediate concern.

An initial estimate by the World Bank puts the cost of damage at between $122bn and $235bn (2.5% to 5% of GDP). The devastating 1995 Kobe earthquake caused damage in the region of $100bn. The economy recovered very quickly from that disaster; it is unlikely to do so now not only because the earthquake was more severe, but also because oil prices are higher, and the Japanese government's debt burden is substantially larger (more than 200% of GDP, with a 7% budget deficit for 2011). The yen is also stronger and was strengthening further as Japanese investors repatriated offshore capital, before several central banks intervened on Friday to drive it down.

Things are certainly very uncertain at the moment, but at some point reconstruction will start in earnest, and this will provide a boost to the Japanese economy. The World Bank estimates reconstruction could take five years.

CONSUMERS STARTING TO TIGHTEN BELTS

Having been a key source of economic growth for the past year or so, the South African consumer seems to be losing momentum according to three data releases from last week. Firstly, local retail sales grew by 6.4% year-on-year in real terms in January, down from December's 8.3% growth rate. The market had been expecting 7.7% growth, after three consecutive months of accelerating growth.

Secondly, the quarterly FNB/BER consumer confidence index dropped to +9 in the first quarter of 2011, having held steady between +14 and +15 index points for the whole of 2010. Consumer confidence remains net positive (above zero), and well above the historic average of 2.2, but this also means that further improvements in sentiment are unlikely given that we've reached the bottom of the interest rate cycle with fuel and food prices rising and tax increases in the form of higher tolls and levies looming. Unemployment also remains high, with slow growth in the jobs market.

Perhaps the biggest factor constraining consumer spending in the months ahead is debt. The latest data from the National Credit Regulator shows that the number of credit users with ‘impaired' records (who are three or more months overdue with legal action pending) rose to 8.61million in the fourth quarter, up from 8.49million in the previous quarter. In the absence of robust consumer demand, there is no reason yet for the Reserve Bank to hike interest rates - inflationary pressure is largely coming from the supply side (especially energy and food prices).

THE WEEK AHEAD

• Attempts to prevent nuclear meltdown at the Fukushima plant and Western military strikes on Libyan targets will probably dominate news headlines this week.

• Though it is a short work week in South Africa, it will be a busy one. On Tuesday, the Reserve Bank releases its Quarterly Bulletin for the fourth quarter of 2010. The Bulletin contains key data on household debt and income, the current account balance, fixed investment spending as well as an update on the Bank's economic forecasts.

• StatsSA releases quarterly employment statistics for the fourth quarter of 2010 on Tuesday.

• On Wednesday, StatsSA releases consumer inflation statistics for February. In January, consumer inflation (as measured by the year-on-year growth in the consumer price index) climbed to 3.7% from 3.5% in December.

• The Reserve Bank's Monetary Policy Committee (MPC) meets this week, and is expected to announce its decision on interest rates on Thursday afternoon. The expectation is that the repo rate will remain unchanged at 5.5% for the next few quarters, so analysts will focus on any hints or suggestions in the accompanying monetary policy statement as to when rates will start rising again.

• Other global events and data releases of note this week: Japan All Industry Activity Index and consumer inflation for January; US February durable goods orders, Q4 GDP, February consumer confidence index, eurozone January industrial new orders and February money supply; Germany Ifo survey for March.

Fairbairn Capital | Old Mutual

Investment Intelligence|Inside Insights

Inside Insights 22 March 2011

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