China, euro zone factories suggest global economy still fragile

[January 04, 2016]  By Sumanta Dey and Wayne Cole

BENGALURU/SYDNEY (Reuters) - The global economy finished last year on a fragile footing, with factory activity in China shrinking for the 10th month running in December while a pick-up in the euro zone was tepid, suggesting more policy stimulus may be in the pipeline.

Coming on a day of turmoil in Asian stock markets after China's central bank fixed the yuan at a 4-1/2 year low, the data point to a further dose of the sluggish growth and inflation, weak demand and jittery financial markets that characterized 2015.

Mainland Chinese shares sank over 7 percent on the lower yuan fixing and shrinking factory activity.

European stock markets fell too, though the declines were less sharp as investors took note of the brighter data from the euro zone.

Manufacturing activity in the single currency area improved last month in all the countries covered by a business survey, suggesting factories performed better over last year as a whole compared to the previous three.

Markit's final manufacturing Purchasing Managers' Index rose to a 20-month high of 53.2, just above a flash reading of 53.1 and of 52.8 in November. The PMIs suggest a pickup in activity, but in most countries still a mild pace of growth.

This year "is going to be a rerun of 2015 with added risks," said Peter Dixon, economist at Commerzbank. "The global economic story is based on weak fundamentals with China slowing further and policy uncertainties existing in developed economies."

While the PMIs point to improving activity in the euro zone, the European Central Bank would have to beef up its policy arsenal to get inflation back up to its target, he added.

EURO STIMULUS

The ECB has already cut its deposit rate well below zero and is buying 60 billion euros a month of mostly government bonds to try and boost inflation. Price pressures are still subdued in the region, but a December Reuters poll suggests market expectations of bigger asset purchase program also remain low.

The euro zone output index - which feeds into the composite PMI due on Wednesday and is seen as a good guide to growth - rose to a 20-month high of 54.5, above 54.0 in November.

But firms cut prices for the fourth straight month, leaving the ECB's inflation target of just below 2 percent a distant prospect.

Data on Tuesday is expected to show euro zone inflation rose to 0.3 percent in December from 0.2 percent in November.

A regional bright spot was Italy, where manufacturing activity grew at its fastest pace in almost five years, auguring well for growth in the euro zone's third-largest economy.

British factory growth slipped however as new orders came in at the slowest pace in five months.

A similar survey due later on Monday will probably show the downturn in U.S. factories continued in December, despite evidence of a very strong services economy and an interest rate hike from the U.S. Federal Reserve a few weeks ago.

The Institute of Supply Managers' manufacturing PMI is forecast to rise to 49.0 from 48.6.

CHINA SLUMP

The Caixin/Markit China Manufacturing Purchasing Managers' Index (PMI) slipped to 48.2, below a Reuters poll consensus of 49.0 and down from 48.6 in November.

That was the lowest since September and well below the 50-point level that separates contraction from expansion. It followed a fractional increase in the official PMI to 49.7.

PMIs in South Korea and Taiwan edged above the 50 mark, though more thanks to a pick-up in domestic demand than any revival in exports.

Weighed down by weak demand at home and abroad, factory overcapacity and cooling investment, China will likely post its weakest economic growth in 25 years in 2015, with the rate of expansion slipping to around 7 percent from 7.3 percent in 2014.

Growth is forecast to slow to 6.5 percent this year and next, according to the latest Reuters poll.

The drag from industry comes as China makes gradual progress in its transformation to a more service-driven economy. An official survey on the services sector showed activity quickened in December, with its main index rising to 54.4, from 53.6 in November.

China has room to ease reserve requirements for banks and loosen government purse strings. It has also been steadily nudging its currency lower.

(Additional reporting by Jonathan Cable and Andy Bruce in LONDON, Isla Binnie in ROME; editing by John Stonestreet)

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