Fed adopts de facto inflation target

Most news headlines, it looks like, have focused on the dissent of views about the launch of QE2 in minutes of the latest FOMC meeting. But what's more revealing is that the Fed discussed whether or not to adopt an inflation targeting, which Chairman Ben Bernanke once promoted but has withdrawn since getting the Fed job.

No decision was made on the adoption of "a numerical inflation objective or a target path for the price level" at this time, but instead the projected longer-run PCE inflation rate in the Summary of Economic Projection is left as a de facto inflation target, saying

participants noted that the longer-run projections contained in the Summary of Economic Projections, which is released once per quarter in conjunction with the minutes of four of the Committee's meetings, convey considerable information about participants' assessments of their statutory objectives.

The Fed implicitly acknowledges that its monetary policy, be it quantitative easing or rate change, is supposed to run for this goal, now 1.6-2.0%, which has just been revised down from 1.7-2.0% in June. PCE inflation rate is currently around 1.4%, a little bit lower from the target.

This de facto inflation target resembles that of the BoJ. Instead of the longer-run PCE inflation rate projection, Japan's central bank has "Understanding of Medium- to Long-Term Price Stability," which was introduced in 2006 to clarify the meaning of price stability in a mid- to long-term as an objective of monetary policy. According to the BoJ,

In today's Monetary Policy Meeting, there was a discussion of the level of inflation rate that each Policy Board member currently understands as price stability from a medium- to long-term viewpoint, in the conduct of monetary policy ("an understanding of medium- to long-term price stability"). While there was a range of views, reflecting the differences in the relative weight attached to factors affecting the understanding of price stability, it was recognized that the level was somewhat lower than that in major overseas economies. It was agreed that, by making use of the rate of year-on-year change in the consumer price index to describe the understanding, an approximate range between zero and two percent was generally consistent with the distribution of each Board member's understanding of medium- to long-term price stability. Most Board members' median figures fell on both sides of one percent. Given that the understanding of medium- to long-term price stability may change gradually reflecting developments such as structural changes in the economy, as a rule, Board members will review it annually.

Currently, the average of most Policy Board members' "understanding" is around 1% in terms of the year-over-year increase rate of CPI. The BoJ hasn't officially declared the adoption of an inflation target mechanism, but a 1% change of CPI is widely believed to be no less than the BoJ's price target. The latest figure is -0.6%, which means Japan is still mired in deflation and hence the central bank will continue the current monetary loosing.

The Fed has, on the other hand, one more target: unemployment rate. The longer-run unemployment rate is projected to be 5.0-6.0%, which has recently been changed from 5.0-5.3% in June, reflecting severe labor markets condition where the current unemployment rate is as much as 9.6%.

As is well known, the Fed has dual mandate: price stability and maximum employment. So, the question may arise as to what if one mandate is fulfilled while the other isn't. Stagflation, recession with rising inflation, is the prime example which could compromise the Fed's mission. As far as the recent minutes go, it seems that the Fed has much more fear of deflation than stagflation.

Lastly, some FOMC members raised concern that "additional expansion of the Federal Reserve's balance sheet could put unwanted downward pressure on the dollar's value in foreign exchange markets." As my previous post shows, Bernanke rebutted a claim that the Fed's quantitative easing has weakened the dollar. But now it's clear that some noticed a positive relation between the monetary easing and a cheap dollar, which would be a cause of later controversy on the Fed's role.

How does polity matter?

A recent comment by George Soros, which looks like leaning in favor of dictatorship, has stirred much controversy, be it antagonism or praise, on how we think about the current polity of government.

Mr. Soros even went so far as to say that at times China wields more power than the U.S. because of the political gridlock in Washington. "Today China has not only a more vigorous economy, but actually a better functioning government than the United States," he said, a hard statement for him to make because he spent much of his life donating to anti-communist groups in Eastern Europe.

There has so far been 260 comments, 77 tweets, and 47 facebook recommends on the website of the Globe and Mail. I'm not sure it's extremely large or not, but Soros's statement should be rather provocative when, according to his own words,

There is a really remarkable, rapid shift of power and influence from the United States to China.

Meanwhile, Ireland is going to be messy. Politics is the biggest obstacle to economic recovery.

Ireland's politics could complicate its bailout with potentially devastating consequences. Even though the ruling coalition has applied for financial aid, political turmoil means it may not survive long enough to negotiate a deal with the European Union and International Monetary Fund. With years of painful austerity on the way, the desire for a political fresh start is understandable. But any delay could further undermine confidence in the country's fragile banks.

Ireland's government is on life support. The Green party — the junior member in the ruling coalition — has promised to withdraw its support from the Fianna Fail party once the bailout is finalised. Meanwhile, two independent parliamentarians on whom the government relies for backing have indicated that they may not even support the crucial budget on Dec. 7. The government's three-seat majority is likely to be reduced to two following a by-election later this week. So the administration may need the support of opposition parties to get the budget through.

Failure to pass this needed round of austerity measures would scupper the bailout — and throw Ireland into deep financial turmoil. In an effort to defuse the political crisis, Prime Minister Brian Cowen on Nov. 22 promised to call an election once the bailout is agreed. But even this may not be enough. Opposition parties could insist on an immediate election in return for sanctioning more cuts. If that were to happen, a new government would probably not be in place before January.

The economic realities facing Ireland mean that the bailout will be painful, regardless of which party is in power. Given the scale of the fiscal adjustment required, it makes sense for a government with a fresh mandate to make the difficult decisions. However, delay would spell danger. Though Ireland does not need to issue any new sovereign debt until next year, its banks are vulnerable to a loss of confidence. If depositors start to doubt that the bailout is definitely on its way, the crisis could quickly escalate. Then few politicians would escape the blame.

One might argue that a one-party dictatorship like communist China is more resilient and effective at a time of economic difficulty than a multi-party democracy. But it's quite unrealistic that the current democracy degenerates into an autocracy to fend off recession, risking the rule of prolonged dictatorship. Economic success in quantity shouldn't be confused by the overall welfare in quality, though the former preoccupies the non-negligible part of the latter.

The world according to BoJ

Bank of Japan Governor Masaaki Shirakawa made two very interesting comments on economic policy. The first one is on the objective of Japanese monetary policy.

Bank of Japan Governor Masaaki Shirakawa said on Friday the central bank's view on the price outlook was in sync with that of the government.

But Shirakawa said monetary policy should not be guided just by looking at price moves.

"Monetary policy should not be implemented just by looking at prices. We need to look at the overall balance of the economy," he told an upper house budget committee meeting.

Be careful that he maintains, "Monetary policy should not be implemented just by looking at prices. We need to look at the overall balance of the economy."

Is it strange or incorrect in light of the BoJ's objective? Of course, not.

The Act (note: the Bank of Japan Act) also stipulates the Bank's principle of currency and monetary control as follows: "currency and monetary control by the Bank of Japan shall be aimed at achieving price stability, thereby contributing to the sound development of the national economy."

We acknowledge that one of the BoJ's objectives is "the sound development of the national economy." It should be no problem, then, that the Governor underscores "the overall balance of the economy" to steer monetary policy.

But the BoJ moved forward its monetary policy meeting to November 4-5, which was originally scheduled for November 15-16, because it can initiate an additional program right after the Fed's FOMC meeting in November 2-3 if the yen surges enough to hamper the economy. Shirakawa denied that overseas events are factored in for the date change, but it's highly likely that the BoJ has weighed in favor of currency policy given that the policy interest rate is near zero.

So, Shirakawa's true intention looks like that Japanese monetary policy is aimed not for rate change anymore but to guide the yen as low as possible, which is in tandem with the government's initiative. That's why he emphasized "the overall balance of the economy" to conduct monetary policy. It's not clear whether this is a departure from the traditional monetary policy, but we should be advised that the BoJ's eye is now kept on currency markets, not bond markets anymore.

Regarding to that, the English article's title "BOJ Shirakawa: BOJ's price views in syc with govt" is a little bit off the point. The title of the original Japanese version "No central banks implement monetary policy just by looking at prices in the short term" seems more in tune with his inner message.

The other comment is on international currency system. Shirakawa said at an upper house budget committee meeting,

Both of developed and emerging nations must realize that the effect of monetary and currency policy returns to their own after spreading to other countries.

I haven't found an English version, which implies that nobody in the world has paid any attention to this comment. It looks like a very, very, very polite criticism by a too-well-behaved central banker of US and Chinese policy.

Price may rise, a little bit

The Fed has so far succeeded in turning an "inflation expectation" up at least a little bit in Americans' mind.

According to the latest two regional reports, manufacturers in New York and Philadelphia answered in November that prices will jump in the future. The index of prices received in the next 6 months in New York rose from 20 in October to 35.06 in November, the highest since October 2008. The same index in Philadelphia also increased from 15 to 33.4, the highest since July 2008. Philadelphia manufacturers saw the current prices rising somewhat, while prices in New York declined from the previous month.

This news should be encouraging if the Fed is going to create an "inflation expectation" to avoid deflation given the current inflation rate is hovering as low as around 1%. The problem is that it's not clear how much prices rise, and how long this persists.

Let me give you an example. Since the Fed embarked on QE2 earlier this month, US Treasury securities have been dumped so that the benchmark 10-year note's yield rose to nearly 3%, the highest in 3 months. But this has come mostly from the rise in real yields, not inflation expectation.

My guess is that prices will rise somewhat in the coming months, which is supposed to be reflected in the next ISM reports. The rise in prices, however, would be so small that it takes many months to reach the Fed's implicit price target of 1.7 to 2.0%.

Who bears cost?

The US has every reason to fear disinflation which could spiral into deflation. As the last post shows, core CPI, CPI excluding volatile goods like food and energy, has increased only 0.61% in October over the year, the smallest on record.

Why is low inflation a problem? It appears to be a bonanza for consumers, because they can afford to buy low-priced goods and services, be it from Chinese or domestic markets. But things aren't so easy as is life itself.

One of the reasons why the inflation rate is so low in the US is that given a considerable gap between supply and demand, US companies have failed to pass through costs coming from soaring commodity prices onto consumers. In other words, companies have very weak pricing power over their products.

Businesses have to struggle in a quagmire of low margins, and as a consequence are unwilling to turn to labor markets, which could cap personal income, and hence reduce the purchase of even such low-priced goods. If so, cash-strapped companies would be compelled to cut more costs, and on and on... In the meantime, inflation could die down even into a negative territory, that is, deflation. This "vicious cycle" would continue until a wide gap between supply and demand goes away so that corporations regain control over prices, which would end up as a resumption of, more or less, price increase.

Low inflation environment brings a classical case of prisoner's dilemma for companies. Every company wants to reflect higher costs on selling price, but is afraid to lose when does it because there is no assurance that others follow suit. They might leave prices at the same low level to gain market share and push competitors out of business. Hence, there is a huge incentive to cut cartel agreements on price adjustment.

The comparison with other countries, especially the UK, clarifies how US corporations have lost pricing power in the midst of growing costs.

First, let's look at the CPI, the index of prices that consumers pay. October's CPI in three countries, the US, the UK, and Germany, increased 1.2%, 3.1%, and 1.3%, respectively, over the year. Among them, UK's inflation rate is quite notable compared with the other two.

On the other hand, the PPI, the index of prices that producers sell, rose 4.3%, 4.0%, and 4.3%, respectively, in October from the previous year. Output price increased almost the same across all three countries.

What do these numbers tell us? UK consumer prices grew higher relative to the others while factory prices rose similarly in all three. In other words, UK companies have succeeded in a cost pass-through while the other two have to internalize cost pressure.

Britons may look like paying more than Americans, but the reason is not that British prices are too high, but its domestic demand is just brisker than the counterparts. A storm of cost cut would overwhelm American and German corporations.

Politics, not economics

The US looks like much more paralyzed than before, which would ruin any chance of making an economic policy effective enough to weather one of the toughest times ever in history facing the country.

Recent attack against the Fed's quantitative easing is based on politics, not economics, largely encouraged by a huge gain of Republicans (and a terrible loss of Democrats as the other side of the same coin) in the midterm elections. Winners are ferreting out a pray for revenge. A pray worth while flaunting their new power. Then, the Fed has been chosen as a sacrifice. It doesn't matter whether the Fed Chairman Ben Bernanke is a republican or not.

Bernanke has just received two open letters to him: one from economists and the other from politicians, both of which criticize the latest Fed's move to buy $600 billion of Treasury securities, called QE2, for risking a cheap dollar, an asset bubble, and uncontrollable inflation.

This is not the first time for the Fed or Bernanke to be exposed in political backlash on the course of monetary policy. But it would be really daunting if the Fed is constrained by partisan politics when the US Congress is quite incompetent to churn out a timely policy as a result of the midterm elections, and hence monetary policy is the only way to counter the downturn.

In October, core CPI, CPI excluding volatile goods like food and energy, has increased only 0.61% over the year, the smallest on record. Taking it into account, few would doubt why printing more money is still justified to fend off disinflation or worse deflation which has crippled Japan for years.

By the way, the second smallest is 0.65% in 1961.

Ireland enters final stage?

Every country on the brink of collapse looks like treading the same path to a bailout: denial, anger, bargaining, depression, and acceptance, as the five stages of grief by Elizabeth Kübler-Ross.

Ireland is about to get on the stage of bargaining or acceptance through depression on financial assistance from the EU, after repeatedly denying the rumor of outside help like here or here.

Ireland signalled a willingness to weigh European Union measures to aid its banks, potentially abandoning a go-it-alone defense to prevent a resurgent debt crisis from destabilizing the euro.

With European Central Bank officials urging Ireland to set aside national pride and tap the 750 billion-euro ($1 trillion) fund created in May, Prime Minister Brian Cowen put possible aid for banks on the agenda of today's meeting of euro finance ministers.

"We have to discuss these matters with partners as to how best to underpin financial and banking stability within the euro area," Cowen told state broadcaster RTE in an interview late yesterday. Ireland has not asked for any bailout, he said.

The Irish turmoil marks a new stage in a sovereign debt crisis that was triggered by Greece a year ago and threatened to break the euro region apart in May. Irish bonds jumped yesterday as traders bet on a rescue at today's Brussels meeting, risking a renewed selloff in the absence of an agreement.

The yield on Ireland's 10-year government bond fell 21 basis points to 8.15 percent, the lowest since Nov. 9. That cut the extra yield over 10-year German bunds to 540 basis points compared with a record 652 basis points on Nov. 11.

Cowen's language marks a shift from last week, when the government said there were no talks under way with European authorities, and he left the door open for the use of EU money to shore up the banks. Ireland isn't filing a request "for the funding of the state," he said, since it has enough cash to last until mid-2011. He doubted a concrete agreement at today's meeting, which starts at 5 p.m. local time.

The BBC reported that "(t)he provisional estimate for EFSF loans is believed to lie between 60bn and 80bn euros." Given 110 billion euros of Greece's bailout package from the EU and the IMF in May, however, the amount suggested looks like insufficient to save a country drowned in a mountain of budget deficit estimated to be 32% of GDP in 2010.

Moreover, Ireland has been hardest-hit by a recession after the Lehman crisis among the eurozone "peripheral" countries. Its GDP plummeted by 7.6% in 2009, well over Greece's 2.0% and the third worst in the entire 16 eurozone nations after Slovenia and Finland.

Ireland's predicaments don't end there. It is the only country where prices have declined since 2007 among the eurozone, meaning the country is in deflation.

Despite the worsening economy, Ireland is going to cut the budget deficit by 6 billion euros, 1.5 times GDP, in 2011, and 15 billion euros all together by 2014 to reach the 3% limit of the budget deficit. The country projects real GDP to grow 1.75% next year against a massive spending cut, mainly due to a 5% increase of exports led by the moderate but steady global economy. Prices are set to rise 0.75% in 2011.

The government is trying hard to make believe the viability of the plan, defending Irish bonds not to be sold off. But few would be convinced that huge budget cuts coupled with the slower global recovery bring an economic growth and inflation, if any, even though taking into account a weak euro.

It wouldn't take long before the once-touted Celtic Tiger succumbs to accepting an EU- or IMF-led bailout package as the final stage to deal with tragedy.

Europe's economy slows

It looks like a strong recovery from the rock bottom after the Lehman crisis has ended at last across the globe. First, let's look at Europe's economy as a whole, which grew 0.4% in the third quarter, slowing from the previous quarter's 1.0%.

Europe's economic growth weakened in the third quarter from the fastest pace in four years as governments' austerity measures to cut record budget deficits dented the recovery.

Gross domestic product in the 16-nation euro area rose 0.4 percent from the second quarter, when it increased 1 percent, the European Union's statistics office in Luxembourg said today. Economists expected a gain of 0.5 percent, the median of 35 estimates in a Bloomberg News survey showed. Industrial output fell 0.9 percent in September from the previous month, the largest drop in 18 months, separate data showed.

Europe's economic expansion is cooling as leaders grapple with how to handle the sovereign-debt crisis, which has pushed Irish bond yields to records and weakened the euro on concern the EU may need to step in. Ireland and Greece have failed to restore economic growth as they contend with bloated deficits and soaring borrowing costs, while Germany's expansion slowed from the record pace in the second quarter.

"The squeeze from fiscal consolidation programs on the periphery will build," said Ken Wattret, chief euro-zone economist at BNP Paribas in London. "That contrast between Germany driven by strong demand for its exports and the periphery really struggling is going to become more rather than less pronounced."

Six-Week Low

The euro sank to a six-week low against the dollar on concerns about the sovereign-debt crisis and slowing economic growth. The European currency, which is set for its biggest weekly loss since August, traded at $1.3689 at 12:01 p.m. in London, up 0.2 percent on the day.

German GDP increased 0.7 percent from the previous three months, when it surged a record 2.3 percent, while third-quarter growth in France slowed to 0.4 percent from 0.7 percent in the prior period, the statistics office said. Italy's expansion slowed to 0.2 percent from 0.5 percent and the Netherlands' economy contracted 0.1 percent following growth of 0.9 percent in the prior quarter.

Greece's economy contracted 1.1 percent in the latest three months and Spain stagnated, today's data showed. Portugal's growth accelerated to 0.4 percent in the quarter from 0.2 percent in the previous three months. The statistics office didn't publish data for Ireland.

New Mechanism

Group of 20 leaders meeting in Seoul discussed Ireland's debt crisis, and European finance ministers there sought to reassure bondholders about a new system to handle future crises in euro-area nations. Bonds of Ireland and Portugal have tumbled since EU leaders on Oct. 29 backed a German demand to set up a permanent debt-rescue mechanism by 2013. Germany wants bondholders to foot part of the cost of any future crisis.

"Any new mechanism would only come into effect after mid- 2013 with no impact whatsoever on the current arrangements," the ministers of Germany, France, Italy, Spain and the U.K. said in a statement in Seoul. The G-20 leaders endorsed gradual changes in exchange rates and agreed to develop early-warning indicators to monitor policies that exacerbate trade imbalances.

From a year earlier, euro-area GDP rose 1.9 percent, the same rate as the second quarter, today's report showed. The statistics office will publish a detailed breakdown of the data on Dec. 2. The report also showed the U.S. economy grew 0.5 percent in the third quarter, based on an EU measure.

'Big Probability'

Europe's recovery may be restrained as governments step up budget cuts to reduce deficits and restore investor confidence. The yield premium on Irish and Portuguese 10-year debt over the equivalent German security rose to records this week on investor concern that they won't be able to fund themselves.

Goldman Sachs Group Inc. Chief European Economist Erik Nielsen said on Nov. 8 there's a "big probability" that Ireland and Portugal will turn to the EU and the International Monetary Fund for help unless "markets suddenly calm down."

The European Central Bank kept its benchmark interest rate at a record low of 1 percent on Nov. 4 and President Jean-Claude Trichet signaled that the bank will stick to its exit strategy even as a faltering economy makes it harder for governments to plug shortfalls. The ECB has purchased government bonds and provided banks with emergency liquidity to bolster lending.

In the U.S., the Federal Reserve last week decided to buy more assets to prop up the world's largest economy. The Bank of Japan said on Nov. 5 that the recovery "seems to be pausing" after pledging to keep borrowing costs near zero.

Mounting Debts

Concern about governments' ability to push down mounting debts sparked a 15 percent drop by the euro against the dollar in the first half of the year, helping to boost exports. HeidelbergCement AG, the world's No. 3 maker of cement, said on Nov. 4 that third-quarter profit more than doubled. Daimler AG, the world's second-biggest maker of luxury vehicles, last month increased its full-year earnings forecast.

European companies remain dependent on faster-growing economies in emerging markets to bolster earnings as euro-area unemployment at a 12-year high restrains consumer spending. Continental AG, Europe's second-largest car-parts maker, on Nov. 3 raised its 2010 forecasts, citing demand in Asia and South America. L'Oreal SA, the world's largest cosmetics maker, said in October that nine-month sales in Western Europe lagged other markets.

"It's clear that the budget consolidation and weaker global demand are weighing on an expansion," said Carsten Brzeski, a senior economist at ING in Brussels. "But we're still far from a double-dip recession."

Budget Consolidation

Industrial production in the euro region rose 5.2 percent in September from a year earlier after jumping 8.4 percent the previous month, today's report showed. Production of durable consumer goods declined 3 percent from August, while output of intermediate goods fell 1.3 percent.

Nations such as China and Brazil are powering the global expansion, widening a gap with advanced economies that are struggling to revive domestic demand. The Washington-based IMF said on Oct. 6 that developing nations will grow 6.4 percent next year, almost three times the pace projected for industrialized economies including Europe and the U.S.

"The recovery which is there, obviously, is uneven because there's a significant difference between emerging economies and advanced economies," Trichet said on Nov. 8 after a meeting with global counterparts. "There is a degree of uncertainty."

What's notable here is that, according to the report, "governments' austerity measures to cut record budget deficits dented the recovery." Now, what about Germany? The biggest economy in Europe also grew less than the previous quarter.

German economic growth slowed in the third quarter, after record expansion in the second, as the cooling global recovery crimped export demand.

Gross domestic product, adjusted for seasonal effects, rose 0.7 percent from the second quarter, when it surged an upwardly revised 2.3 percent, the Federal Statistics Office in Wiesbaden said today. Economists predicted the economy would expand 0.8 percent, the median of 37 estimates in a Bloomberg News survey shows. Separately, France said GDP rose 0.4 percent in the third quarter after a 0.7 percent gain in the second.

Germany is driving growth in the 16-nation euro area as debt-strapped countries such as Ireland, Portugal and Greece grapple with a loss of investor confidence in their ability to finance themselves. Germany's economy, Europe's largest, will expand 3.7 percent this year, the government's council of economic advisors forecast this week. That would be the fastest growth since 1991.

"This is an incredible number for Germany," Andreas Scheuerle, an economist at Dekabank in Frankfurt, said of the third-quarter report. "Consumption has picked up, investment is strong. What else do you want? We're expanding at high speed and twice our potential."

Weber's Prediction

Growth also exceeded the expectations of Bundesbank President Axel Weber, who said on Oct. 25 the economy would expand about 0.5 percent in the third quarter. The euro was little changed after today's data, trading at $1.3637 at 9:48 a.m. in Frankfurt.

The statistics office said trade and investment as well as household and government spending all contributed to growth in the third quarter. From a year earlier, GDP increased 3.9 percent. Second-quarter growth was revised from 2.2 percent.

"Some might label today's growth rate as a slowdown, in our view 'normalization' suits better," said Carsten Brzeski, an economist at ING in Brussels. "The impressive second-quarter performance was a one-off and will not be repeated any time soon."

Euro-area growth probably slowed to 0.5 percent in the third quarter from 1 percent in the second, according to another Bloomberg survey of economists. Eurostat, the European Union's statistics arm in Luxembourg, will publish that data at 11 a.m. today.

The Austrian economy expanded 0.9 percent in the third quarter after growth of 1.2 percent in the second. Holland's contracted 0.1 percent following growth of 0.9 percent.

Widening Gaps

The region's sovereign debt crisis is widening the gaps between its members. Greece's economy probably shrank 4.3 percent in the third quarter, its seventh quarterly contraction, and Portugal's GDP may drop 0.1 percent, economist surveys show.

That may force the European Central Bank to leave stimulus measures and record-low interest rates in place longer than necessary for Germany, where falling unemployment is boosting prospects for consumer spending.

"If you look at growth, the labor market and government finances in Germany, these all suggest it would normally soon need a rate hike," said Aline Schuiling, an economist at ABN Amro Bank NV in Amsterdam. "But of course the ECB can't separate it from the rest of the euro zone. The government might need to do more fiscal tightening if they want to prevent the economy from overheating."

Germany's Siemens AG, Europe's largest engineering company, yesterday announced a bigger-than-estimated increase to its dividend for 2010.

'Full Momentum'

"We're coming out of the economic downturn with full momentum," Siemens Chief Executive Officer Peter Loescher said. "Our growth is gaining speed. We expect to take this positive momentum into the next fiscal year."

Bayerische Motoren Werke AG, the world's top maker of luxury vehicles, raised its 2010 forecast after reporting an 11- fold jump in third-quarter profit. Bilfinger Berger, Germany's second-largest construction company, has lifted its outlook for 2010, and luxury clothier Hugo Boss AG reported a 79 percent jump in third-quarter profit.

The cooling global economy and a stronger euro may damp exports. The International Monetary Fund forecasts global growth will slow to 4.2 percent next year from 4.8 percent this year. In China, economic expansion eased in the three months through September, and the U.S. Federal Reserve is buying an additional $600 billion of Treasuries to bolster its ailing economy.

That's helped the euro advance 14 percent against the dollar since early June, threatening export price competitiveness outside the euro region. Within the currency zone, Germany's biggest export market, governments are cutting spending and raising taxes to push down budget deficits.

Still, Germany has become "less dependent on exports and, encouragingly, more reliant on domestic demand," said Alexander Koch, an economist at Unicredit in Munich. "Investment activity will pick up further. Above all, consumer expenditure has risen markedly."

This Bloomberg report sees the reason for slower growth as the abating global recovery which reduced the country's exports. But some has a different opinion. An economist at ING is quoted to say, "Some might label today's growth rate as a slowdown, in our view 'normalization' suits better." Also, another economist brags that Germany is now "less dependent on exports and, encouragingly, more reliant on domestic demand."

Is that really so?

Second thought would be required to assess the current condition of German economy. As my previous post showed, exports' share is close to 50% in Germany's GDP, and its contribution to GDP growth exceeds GDP growth itself much more, meaning that Germany is heavily dependent on exports for development. Given that the country is now on the way to cutting budget deficit and the euro is on a high plateau, "normalization" would sound like a petty consolation.

China is an irritant?

President Obama, of course, didn't say so, but somebody might want to paraphrase it instead to hint Obama's inner reflection.

U.S. President Barack Obama took aim at China as the Group of 20 summit ended Friday, calling its undervalued currency "an irritant."

The president, speaking at a news conference in Seoul, suggested China bears much of the blame for global trade imbalances, The New York Times reported. He abandoned his usual cautious language on the subject and said China and other countries should not assume "their path to prosperity is paved simply with exports to the United States."

"Precisely because of China's success, it's very important that it act in a responsible fashion internationally," Obama said. "And the issue of the renminbi is one that is an irritant not just to the United States, but is an irritant to a lot of China's trading partners and those who are competing with China to sell goods around the world."

At the G20, Obama and other leaders agreed to pass along checks and balances of international trade to the International Monetary Fund to study.

The leaders asked the IMF to find "indicative guidelines composed of a range of indicators" that would "serve as a mechanism to facilitate timely identification of large imbalances that require preventative and corrective actions be taken," The Wall Street Journal reported.

The final agreement said countries with "overvalued flexible exchange rates" would be permitted to take "carefully designed macro-prudential measures."

But leaders clearly balked at putting teeth in the communique that would measure or correct trade imbalances this year.

"The idea is not to stall on solutions that would be put on the table too early," said French President Nicolas Sarkozy, who will chair the next G20 summit next year.

Canadian Prime Minister Stephen Harper said, "I think we've got everyone talking the same language, everyone understanding longer term what has to be done."

It's a very harsh word for a Nobel Peace Award winner. Nonetheless, it's not difficult to see that his irritation is coming from a declining support for the administration, which has just been demonstrated as a historical defeat in a mid-term election.

In spite of a lot of speculations beforehand like "the new Plaza Accord", the G20 meeting in Korea didn't cut any policy or agreement but for a mundane communique, presenting us how deeply the world is divided on the currency issues.

Anyway, I'm very much interested in a following blog post by Los Angels Times, which should be a concluding remark for the G20.

Seems like the country has been enjoying a little vacation from President Obama during his month-long trip to Asia the last eight days.

He'll be back home Sunday, talking up more storms. But today he was back briefly, if only from South Korea.

The G-20 summit of world leaders that concluded today in Seoul, South Korea, was so productive in the area of economic solutions that at his departure news conference (full text below, as usual), the first thing President Obama chose to talk about was Iraq.

He wanted to call attention to yet another "milestone" over there, the not-really-quite-completed-but-we're-really-still-making-progress-in-months-long-negotiations on yet.... ...another national government. It seems like over all these years we've passed so many important "milestones" there that we ought to be reaching a destination pretty soon. Even if they do use kilometer stones.

Anyway, talking about Iraq again about sums up the value of the Seoul summit.

Japan feels currency pains

The strong yen has started eroding Japan's economy at last. Japanese core machinery orders fell in September for the first time in four months.

Japanese machinery orders fell for the first time in four months, a sign that companies are becoming reluctant about increasing spending as the nation's export-led recovery slows.

Factory orders, an indicator of capital spending in three to six months, fell 10.3 percent in September from the previous month, the Cabinet Office said today in Tokyo. The median forecast of 27 economists surveyed by Bloomberg News was for a 9.5 percent decline.

The report adds to evidence that the yen's surge to a 15- year high against the dollar and slowing global growth are weighing on corporate sentiment. Toyota Motor Corp. has revised upward its forecast for the yen rate while Nissan Motor Co. has pared its investment plans as the appreciation erodes profits.

"Corporate sentiment remains stagnant, so it will take time until fund demand and business investment pick up," Susumu Kato, chief economist for Japan in Tokyo at Credit Agricole CIB and CLSA, said before the report released. "Companies will stay cautious about the outlook as the yen's appreciation would damp exports to the U.S. and Europe."

Orders rose 10.1 percent in August, the biggest gain this year. The yen traded at 82.28 per dollar as of 8:53 a.m. in Tokyo, compared with 82.26 before the report was released. The Japanese currency has still gained 4 percent since authorities tried to stem the yen’s advance by intervening in currency markets on Sept. 15.

Toyota, the world's largest carmaker, updated its estimate for the Japanese currency to 85 yen against the dollar from 90 yen for the year ending March 31. The yen climbed to 80.22 against the dollar on Nov. 1, the highest level since April 1995.

'Extremely Painful'

"If the yen stays at this level in the mid- to long-term, this is an extremely painful prospect," Toyota Executive Vice President Satoshi Ozawa said last week.

Nissan, Japan's third-largest automaker, said last week that the company expects the strong yen to cut its full-year operating profit by 185 billion yen. Nissan also plans 340 billion yen in capital spending for the year ending on March 31, smaller than its previous 360 billion yen forecast.

The Bank of Japan this week downgraded its economic assessment for a second month, saying that the recovery is "pausing" as exports and production cool. It held the overnight call rate target to between zero and 0.1 percent at its Nov. 4-5 meeting, which was brought forward by more than a week to speed up deciding details of its asset-purchase program.

The decline in orders in September would be a pull-back from the large jump in the previous month and machinery orders are still on a moderate recovery track, said Junko Nishioka, chief economist at RBS Securities Japan Ltd. in Tokyo.

"Although the level of orders remains low, companies are gradually increasing business investment as corporate profits are rebounding," Nishioka said before the report was released.

"Factory orders" in the sentence above means machinery orders excluding volatile ones from ship builders and electric power companies, which is widely watched by analysts as a leading indicator of capital investments.

Japanese industrial production has already fallen for the fourth straight month in September.

Japanese factory output fell for the fourth straight month in September, the longest streak of declines in more than a year, adding to signs the economy is losing momentum as slowing export growth and a strong yen bite.

Core consumer prices also marked their 19th straight month of annual declines in September and household spending fell from August, underscoring how sluggish consumption was keeping Japan mired in grinding deflation.

Industrial production fell 1.9 percent in September, data showed on Friday, more than a median market forecast of a 0.6 percent drop. That led the government to cut its assessment on output to say it is on a weakening trend.

Manufacturers surveyed by the Ministry of Economy, Trade and Industry expect output to fall 3.6 percent in October but bounce up 1.7 percent in November.

"It's quite a weak number. Judging from this data, the economy is already entering a downturn. This shows the economy won't perform as good as the Bank of Japan predicted yesterday," said Takeshi Minami, chief economist at Norinchukin Research Institute.

"Most of the weakness could be explained by the expiration of government incentives for low-emission cars. But that doesn't change the fact factory output is weak. The Bank of Japan may need to do more to support the economy."

Japan's economy bounced back last year from its worst slump since the World War Two on the back of global recovery, but it has been losing steam in the past months, weighed down by a rising yen, softening global growth and weak spending at home.

The government cut its assessment of the economy in October, saying growth was stalling.

The Bank of Japan was somewhat more upbeat in its long-term outlook report issued on Thursday, sticking to its forecast that the economy will return to a moderate recovery path after a period of weakness. But it predicted a very slow exit from deflation in the coming years.

Analysts expect no significant upturn at least until early next year as the expiration of government subsidies for low emission cars is set to hit factory output.

The government is proposing an extra budget that offers help to job seekers and promotes subsidies for green technology, but economists have largely dismissed the chance this will provide an immediate boost to growth.

Core consumer prices fell 1.1 percent in September from a year earlier, roughly in line with a median forecast for a 1.0 percent decline and previous month's 1.0 percent drop.

The so-called core-core inflation index, which excludes food and energy prices and is similar to the core index used in the United States, slid 1.5 percent in September from a year earlier.

Languid machinery orders are another sign that a strong currency is losing steam from the export-dependent country, in opposition to sanguine economic outlook by authorities. Japan's third quarter GDP is scheduled to be released on Monday next week, which analysts have forecast to grow by 0.6% from the previous quarter, underpinned in large part by government subsidies. But government support has already been done in September, which, coupled with a surging yen, would drag the economy into a negative growth in the present quarter.

Germans are worrying, really

Germans are worrying (or getting mad), as showed in the last post. This time, German Chancellor Angela Merkel has voiced a solemn warning ahead of the G20 summit in Seoul this week, where she hasn't missed (or it looks like so) locating a danger not only to the world economy but also, more importantly, to Germany.

A return to trade protectionism is the greatest danger facing the global economy, German Chancellor Angela Merkel was quoted as saying on Monday.

"The greatest danger that threatens us is protectionism, and we are still not taking enough steps to ensure genuinely free trade," Merkel said in an interview with the Financial Times ahead of the Group of 20 summit in Seoul this week.

The G20 summit has been pitched as a chance for leaders of the countries that account for 85 percent of world output to prevent "currency wars" from spreading to become a rush to protectionism that could imperil the global recovery.

Merkel told the paper that China should be persuaded with "facts and figures" to set a "fair exchange rate" for its currency, the renminbi or yuan, rather than be attacked for its policy.

She also dismissed a U.S. proposal for quantified balance of payments targets as "too narrowly conceived."

"I don't think much of quantified balance of payments targets," she said.

"It is not just a question of exchange rates, but also a question of competitiveness."

Merkel's comment is, in one sense, supposed to be for all world leaders who are under enormous pressure to stimulate the economy by any means, but it underpins how fearful Germany is of protectionism for its survival.

Germany's exports have increased its share in GDP to reach over 50% in 2007-2008, mainly reflecting the worldwide housing bubble. It sank considerably in 2009 due to the near breakdown of world trade, but the current world recovery coupled with the weak euro will help sustain exports to lead to the fastest growth among the G7 advanced nations this year.

Germany's biggest problem is, however, that household consumption, still the biggest component in GDP, isn't strong enough to keep floating the economy, which has left few choices but to depend on external demand for growth. It means the more protectionism prevails in the world, the more Germany suffers. The Chancellor has a good reason to warn against protectionism.

There is more to worry: the euro. It's no doubt that the weak euro, a result of concern over heavy debtor nations like PIIGS, is the largest contributor to Germany's economic recovery so far. But happy days won't last. The Fed's quantitative monetary easing, which German Finance Minister criticizes, has recently pushed up the euro's value to a 10-month high against the dollar, casting a dark shadow over the economic outlook with exports in peril.

Statistics always has a room for any interpretation, as evidenced by the recent German output report in Reuters, a bull, and Bloomberg, a bear, both of which addressed the same number. If Japan's exports are any guide to the world economy, however, a blip in demand might be inevitable in the coming quarters. Production would have to be trimmed down to be in line with shrinking export orders. The whole economy would rapidly cool down because the ECB doesn't hide its intention to get out of the non-standard monetary policy and the government is going to slash public spending over fiscal concern.

Thus, three worries, protectionism, strong euro, and weak demand, could haunt Germany. How does Germany beat those headwind? Prescription would be to cultivate and expand domestic demand, as is the case with Japan which also remains in a chronicle pain of anemic demand within the country. It's easier said than done, though.

In a strict sense, the US is no exception for currency manipulation. How many times has Treasury Secretary Timothy Geithner touted the strong dollar policy so far? His former boss, Robert Rubin, then Treasury Secretary, was a champion of the strong dollar policy. But is Geithner now supporting it? He would not be willing to hail a strong currency given that his current boss, President Obama, plans to double US exports in five years.

Emotional knee-jerk reactions to German Finance Minister's criticism, like this or this, wouldn't attract any sympathizers outside the country. Germans have their own reasons as well as Americans. For the US to take on China, whose influence is much graver to the US than Germany, rupture in the Atlantic Ocean should be narrowed as much as possible regarding a currency matter. The US shouldn't let Germany sit on the side of China.

Inflation says it all

To rise or not to rise, that is the question.

A streak of the central banks' meeting last week signaled the age of divergence to achieve the desirable path to price stability. Among four of the largest economies' central banks, the Fed, the ECB, the BoJ, and the BoE, which discussed the course of monetary policy amid a weak recovery, only the Fed loosened its grip on monetary policy to start buying long-term Treasury securities, dubbed QE2, as widely expected. The other three central banks, which convened after the FOMC meeting, kept their stance, though the BoJ decided last month to pump more money into the economy by purchasing JGB, REIT, and corporate bonds.

What split their responses? Just look at inflation, and you'll have a clear reason behind it. CPI inflation rate in the UK and Euro zone, whose central banks didn't move, is higher than the US and Japan, both of which resumed printing money.

Let's see how they think about inflation. The FOMC statement declares that measures of underlying inflation are somewhat low, relative to levels that the Committee judges to be consistent, over the longer run. The Fed's Chairman Ben Bernanke, of course, hasn't forgotten the mandate of the central bank as holding inflation at a low level.

"We are absolutely committed to keeping inflation low and stable," Bernanke said in response to a question at Jacksonville University. "We have the tools to unwind and tighten policy at the appropriate time, when that time comes."

All the more important right now is, however, to keep deflation at bay.

"We're not in the business of trying to create inflation, our purpose is to provide additional stimulus to help the economy recover and to avoid potentially additional disinflation, which I think we all agree could also be worrisome."

...

"We've had a very significant disinflation since the beginning of the crisis. We should not be satisfied with a situation where we have both a large amount of slack on the employment side and inflation which is below our generally agreed upon level and seems to be declining over time."

The ECB President Jean-Claude Trichet, on the other hand, described risks to the inflation outlook as "slightly tilted to the upside," and even reiterated his intention to stick to an exit strategy, saying "the non-standard measures that we have taken are, by definition, of a transitory nature."

Thus, views on the outlook of inflation are one of the main drivers which divided the major central banks' reaction to the current economy last week.

Meanwhile, German Finance Minister Wolfgang Schaeuble wasn't patient enough to contain his complaint on the Fed's policy.

"I have great doubts about whether it makes sense to pump unlimited amounts of money into the markets," Schaeuble told Der Spiegel news magazine. "There is no shortage of liquidity in the U.S. economy. I can't see the economic argument for this move."

The U.S. central bank's decision to extend its program of quantitative easing raised uncertainty in the world economy, he said.

"It will make it difficult to get a reasonable balance between the industrial and emerging nations and it undermines the credibility of U.S. financial policy," Schaeuble said.

He has repeatedly criticized the U.S. plan to buy debt and pump more money into the economy to prop it up. He also defended Germany against criticism of its trade surplus.

"The German export success is not due to any currency tricks but rather due to the improved competitiveness of German companies," Schaeuble said. "The American growth model is stuck in a deep crisis."The United States has lived beyond its means for too long, its financial sector is disproportionally inflated and its industrial core neglected. There are many reasons for America's problems ... the German export surplus is not one of them."

Schaeuble also criticized U.S. foreign exchange policy. "It's not right when the Americans accuse China of manipulating exchange rates and then push the dollar exchange rate lower by opening up the flood gates by turning on the printing presses," he said.

On Friday he said U.S. monetary policy was "clueless."

German Finance Minister was also reported to liken the Fed's quantitative easing to China's currency policy.

"At the moment, from a European viewpoint, one could get the impression that the U.S. is doing through other means what it is reproaching China for," Schaeuble said at a conference in Berlin.

"One could get the idea that the instruments are different but the goal is the same, and the one who suffers are clearly...to a certain degree the Europeans," the minister argued.

Well, Germans definitely have something to worry.

The Japanese, in turn, seems like too well-behaved to raise a concern, despite the yen's sharp appreciation. Japanese Finance Minister Yoshihiko Noda made no comment when asked about the Federal Reserve's latest monetary easing, though admitting to have to closely watch the US economy and monetary policy (in Japanese). The BoJ Governor Masaaki Shirakawa dismissed the idea of monetary easing race, saying "I do not see Japan and the United States as in a monetary easing competition."

Bernanke rebutted critics who claim that the Fed's monetary policy has given birth to the weak dollar.

"The best fundamentals for the dollar will come when the economy is growing strongly," Bernanke said today in response to questions from college students in Jacksonville, Florida. "That is where the fundamentals come from. We are aware the dollar plays a special role in the global economy."

"A strong U.S. economy is critical not just for Americans but for a global recovery," he added. "So in that respect it is very important we do achieve a faster recovery in the U.S."

Surprised, NYT wrote, "In commenting on the dollar, Mr. Bernanke was making an unusual departure from custom. By tradition, the dollar is the purview of the Treasury secretary and monetary policy is the domain of the Fed chairman, and neither official steps on the other's turf."

Brief comment on employment report

I don't have much to add on the employment report released yesterday, which showed a staggering increase of US employment by 151,000 in October, the first gain in five months. The consensus of forecast was an increase by 60,000. According to a Bloomberg report, it exceeded "all estimates in a Bloomberg News survey of economists."

Everybody has, I guess, already been done with investigating thoroughly the details of statistics, which has little left to me for reading up the current labor condition in the world largest economy.

This employment statistics, especially establishment survey data, is quite notorious for subject to revision upside and down month by month. For instance, the change in employment for August was revised up from -57,000 to -1,000, and the change for September was also revised up from -95,000 to -41,000. But August change was just revised "downward" in September from -54,000 to -57,000.

I have been thinking that August and September employment should increase at least given a downward trend of initial claims for unemployment insurance. So, the large spike in October looks like including three-month growth. I guess October number would be revised down a bit next month, while August and September would see an increase in employment.

President Barack Obama described the current report as "encouraging" but "not good enough." What would Fed Chairman Ben Bernanke think about it? Some analysts criticized QE2 as being too little and too late, but should the job increase continue, markets would feel comfortable enough to support QE2 or the Fed would even start to consider pulling the Treasury purchase back for an exit strategy.

Bank of Japanization of Fed

My capacity of English severely constrains how to make up a new word, but it seems to me that the Fed is clearly going to follow after the BoJ, in the sense that the next move would be nothing less than the de-facto inflation targeting where the BoJ is on the way.

At the FOMC meeting, the Fed decided to buy $75 billion of long-term Treasury securities per month by the end of June in 2011, which totals $600 billion. At the time of QE1, the Fed purchased $300 billion over 6 months. The magnitude and term of QE2 is at least larger than QE1.

A little bit interesting to me is that the Fed will keep reinvesting principal payments from its securities holdings. The Fed is now buying about $30 billion of long-term Treasury securities per month as a reinvestment of principal payments. It's not much compared with the new purchase, but the Fed's intention would be that there is no reason to stop it right now.

It would be better to gauge the impact of the mid-term election, where the Democrats were heavily blown, on the economy, but it's beyond my ability. My guess is that the congress will be so paralyzed that the next big push from fiscal arena is difficult to be taken into account as a reliable and expected economic policy. So, the next Fed's move would be far bolder and greater than thought to make up for fiscal inability.

If the Bank of Japanization means the incompetence of monetary policy, what would be left to stimulate the economy? Could paralyzed congress save the country? The US seems to be getting into a very, very hard time.

Aussie as a proxy of China

A bit of surprise rippled through the markets yesterday, which looks like coincided with a similar event in late October. Reserve Bank of Australia unexpectedly decided to raise its official interest rate by 25bp to 4.75% at the monetary policy meeting, where most analysts predicted it to be held steady. Rattled currency markets made the Australian dollar shoot up to around parity with the US dollar.

RBA explained the reason for rate hike is that

the economy is now subject to a large expansionary shock from the high terms of trade and has relatively modest amounts of spare capacity. Looking ahead, notwithstanding recent good results on inflation, the risk of inflation rising again over the medium term remains.

Australia has set an inflation target of 2-3% not to "materially distort economic decisions in the community." The core CPI has recently increased by 3%, an upper limit of the inflation target. Given that the terms of trade has hit all time high, RBA's decision to raise the interest rate is considered to be preemptive in terms of curbing inflationary pressure.

Note that China also raised the interest rates suddenly late last month, which plunged world stock markets and appreciated the US dollar as a safe haven in fear of China's economic slowdown. RBA, though, interpreted the largest trade partner's action differently, saying in the statement that "concerns about the possibility of a larger than expected slowing in Chinese growth have lessened recently." China's policy would have stirred RBA to concentrate more on inflation than economic condition.

It wouldn't be ridiculous to trade the Australian dollar as a proxy of the yuan.

In favor of manufacturing

It looks like the age of manufacturing has come back at last after its long losing battle against service industry, especially finance. Recent results in Purchasing Manager's Index or PMI, which captures current business condition, showed more bright pictures for manufacturers in the US, the UK, and China, indicating that unexpected recovery led by manufacturing now under way is strong enough to maintain the economy for some time.

However, one has to understand that the reason of a sharp recovery is not the same across the three countries. Meanwhile, major central banks are in no mood to rush to an exit strategy, taking on disinflation or deflation with another round of quantitative easing at hand. Let's look at one by one. The keyword is "Global rebalance".

According to a Bloomberg report, manufacturing picked up a sudden momentum in October in the UK, a country known for its finance-centered economy.

U.K. manufacturing growth unexpectedly accelerated in October and hiring improved as export orders increased.

A gauge based on a survey of companies by Markit Economics and the Chartered Institute of Purchasing and Supply rose to 54.9 from 53.5 in September, according to an e-mailed statement today in London. The median forecast of 25 economists in a Bloomberg News survey was for a decline to 53. A measure above 50 indicates expansion.

Manufacturing is gaining traction after a drop in the pound since the start of 2007 boosted demand for British exports, and economic growth in the second and third quarters was the strongest for two consecutive quarters since 2000. Still, the Bank of England will probably keep its asset-purchase program at 200 billion pounds ($322 billion) this week as the government prepares the biggest public-spending cuts since World War II.

"Exports are very much the engine of growth within manufacturing at the moment," David Noble, chief executive officer at CIPS, said in the statement. "It's difficult to predict the impact of fluctuations in export markets so the recovery may continue to be bumpy. What is clear is that manufacturing looks set to drive further gross-domestic-product growth in the fourth quarter."

The pound rose as much as 0.3 percent against the dollar after the report was published, and traded at $1.6086 as of 9:32 a.m. in London.

Employment Boost

Glasgow, Scotland-based Weir Group Plc, the world's biggest maker of pumps for the mining industry, said today it expects profit for the fiscal year 2010 will be slightly ahead of previous forecasts.

New export orders rose at the fastest pace in five months in October, CIPS said, with companies reporting sales increases to Europe, Latin America, the Middle East and Africa. Employment rose at the fastest pace since June, while average input costs rose for a 14th month.

The U.K. economy grew 0.8 percent in the third quarter, double the forecast of economists in a Bloomberg survey. Growth was 1.2 percent in the second quarter, the fastest in nine years.

"This report confirms that the improving picture painted by last week's good GDP data has continued into the final quarter," James Knightley, an economist at ING Financial Markets in London, said in an e-mailed statement. "With the pain yet to bite from government spending cuts, we remain cautious and see growth slowing through 2011."

The government's spending reductions will eliminate 490,000 jobs in a bid to wipe out a record budget deficit by 2015. The cuts will peak at 81 billion pounds in 2015.

Thirty-eight economists in a Bloomberg News survey forecast the Bank of England will maintain the size of its bond-purchase plan, while two predict increases. All 60 economists in a separate poll say the bank will keep the benchmark interest rate at a record low of 0.5 percent. The bank announces the decision at noon in London on Nov. 4.

One might find it difficult to locate where 'Made in UK' products are sold outside the country. Aside from it, this result has two important implications, which would be a harbinger of transformation in the economy.

First, manufacturing is finally gaining its ground in the country, which has lost factories to overseas and deferred to finance over the years. According to ONS, manufacturing GDP lost its value in the last 20 years, while business service GDP has kept expanding by 3.8% per annum.

Second, exports could contribute to the economy more profoundly than before, reflecting weaker domestic demands. The share of exports in GDP, though not yet restored the pre-Lehman shock level, is gradually soaring since the mid-2009, in part due to weak pounds.

The UK is far away from rebalancing its economy, but those two features can be a sign for the country tilting toward a more manufacturing- and export-driven nature.

Rebalance needs a partner to offset a country's surplus or deficit. The world's biggest surplus country, in turn, showed the acceleration in manufacturing driven by internal demand amid subdued exports.

The official purchasing managers' index (PMI) rose to 54.7, from 53.9 in September and 51.7 in August. Readings above 50 indicate expansion.

The result was driven by rising transport and general equipment orders, thanks to strong state-sponsored investment in infrastructure.

The trends were confirmed by a separate report from HSBC bank.

Like the official PMI from the China Federation of Logistics Purchasing (CFLP), the HSBC report on China produced by data services company Markit "suggests strong growth momentum in domestic demand," said HSBC chief economist for China, Qu Hongbin.

He predicts a 9% growth rate in the fourth quarter - moderately slower than the 9.6% already announced for the third quarter - despite the "still soft increase in new export orders".

Price pressures

The official CFLP report has remained above 50 - indicating expansion of the manufacturing sector - for all of the last 20 months, as the government pushed an investment splurge to offset the effect of the global recession.

Spending on new projects in the first nine months of this year was up 25% on a year ago.

The data was particularly strong as it coincided with an annual week-long national holiday, which normally causes a small drop in the index during the month of October.

Stock markets reacted well, with the Shanghai Composite index ending the day up 2.5%, while Hong Kong's Hang Seng rose 2%.

But it will add to concerns about rising inflation at China's central bank.

The People's Bank of China raised interest rates by 0.25% last week, in the hope that - along with moderate strengthening of the yuan - this may stabilise rising prices.

However, the CFLP report showed that manufacturers continue to report a high and rising cost of raw materials, particularly for cotton and rubber.

Contrasting fortunes

Data from other big Asian economies gave a more mixed picture.

Like China, India saw further growth in manufacturing in October, according to HSBC.

The bank's PMI for India rose to 57.2 from 55.1 the month before.

As with China, the expansion was fuelled by growing domestic demand, while exports remained relatively subdued.

South Korea and Japan in contrast showed further signs of a possible contraction.

In Japan - where the government warned last month of an economic standstill due to the strong yen - car sales fell 27% compared with a year ago, to their lowest October level on record.

The drop was in part due to the expiry at the end of September of a government subsidy for environmentally friendly cars.

Meanwhile, South Korea's manufacturing PMI, also commissioned by HSBC, fell to 46.7 in October from 48.8 in September, indicating that the sector's contraction steepened in the month.

While current exports have risen some 30% over the last year, the survey indicated that new export orders for Korean firms contracted in October for the first time since February last year.

Note, again, that China's expansion "was fuelled by growing domestic demand, while exports remained relatively subdued." The country is notorious for its export-driven economy powered by the cheap currency, condemned by some as one of the main culprits of global imbalance which is widely believed to give birth to the current recession. Unfolded in the recent PMI reports is, however, an economy transforming itself to extend domestic demand instead of searching for foreign markets.

Manufacturing activity also expanded in the world's largest deficit country, the US, in October. It's no doubt that the cheap dollar is playing a major part to enhance manufacturing through exports.

Manufacturing activity expanded last month at the fastest pace since May, driven by demand in the United States and abroad for cars, computers and other goods. 

The report signals that U.S. factory output, which slowed over the summer, remains a strong player in an otherwise weak economy. A separate report on Monday showed that manufacturing in China, the world's second-largest economy, also grew.

The Institute for Supply Management said Monday that its manufacturing index read 56.9 in October, up from 54.4 in September. It was the 15th straight month of growth. A reading above 50 indicates growth.

"This was a very positive report, and it suggests that the U.S. manufacturing sector is beginning to reap the benefits of the weak dollar," Eric Green, an economist at TD Securities, wrote in a note to clients. A weak dollar makes U.S. goods cheaper overseas.

Manufacturing helped drive the U.S. economy out of recession last year, but growth had slowed in recent months. The ISM's manufacturing index rose to 60.4 in April, the highest level since June 2004. The index had bottomed out at 32.5 in December 2008, the lowest since June 1980.

The jump in October could ease concerns that companies are almost through rebuilding their stockpiles — a trend that appeared to be slowing factory output growth in recent months.

"The U.S. manufacturing sector is getting a second tail wind," Green said.

Manufacturing activity in China also improved last month. A survey affiliated with the government said its measure rose to 54.7 in October from 53.8 in September.

Brian Bethune, an economist at IHS Global Insight, said China's growth is important for the U.S. economy. China's manufacturing sector is key to the rest of Asia's economy, and the region as a whole is a leading destination for U.S. exports.

Still, much of the U.S. economy's health depends on consumer spending and the gains in manufacturing can't be sustained unless that picks up.

The dollar has been weakened by the Fed's ultra loose monetary policy, sending the yen to nearly a 15-year high. A cheap currency surely helps boost exports,

which leads manufacturing activity to compensate for declining imports due to soft domestic demand. The US, along with the UK,  is on the way to rebalance the economy with benefit of weak dollars.

All results above indicate that rebalancing is under way among major economies, but questions remain on how to stop competition for cheaper currencies to keep afloat.