Week Ahead: the market risk before Christmas

Step aside Ben Bernanke and Mario Draghi. The US and European central bankers have had their chance for 2012: in what remains of the year, perhaps alarmingly for markets, any crisis-busting will be left to politicians.

Nowhere is this more the case than in the US. Federal Reserve chairman Bernanke – who has just announced another round of stimulus – has repeatedly urged politicians to quickly reach a deal to see off automatic spending cuts and tax rises that would see the world’s largest economy go over the ‘fiscal cliff’.

On one hand this lack of resolve, and apparent stubbornness from both Democrats and Republicans – battling over taxes for the rich and the size of government – is alarming.

Getting messy

With expectations growing that the outcome will be messy, markets could increasingly see the impending New Year deadline as reason to fret more in the normally quiet trading days around Christmas. So far, the very fact that talks continue has prevented market falls, albeit suppressing shares in a fairly tight trading range.

Investors must ask themselves how much short-term market and economic pain politicians are willing to risk, with perhaps only serious market pressure likely to yield results, in the style of last-minute eurozone crisis rescue efforts.

Efforts to avert the cliff, alongside the need to agree on a debt ceiling and a 2013 fiscal Budget, put a cap on the market-moving potential of big-ticket data releases due out of the US this week. These include Thursday’s final reading of third quarter economic growth which economists expect to be revised higher from the previous reading of 2.7%.

'Abenomics'

Politics comes to the fore in Japan too, where Shinzo Abe, the leader of the opposition Liberal Democrat Party, is the favourite to take power at this weekend’s election. Abe has spoken out strongly about his desire to reform the Bank of Japan and for unlimited monetary stimulus; ‘Abenomics’ as it is being called.

This could see the yen continue to fall and, say the optimists in a land of investor disappointment, help boost the stock market and raise Japan out of recession. The Japanese central bank also meets in the coming week, with weak data adding to arguments for further stimulus.

Elsewhere in Asia this weekend, China’s Central Economic Work Conference takes place, where policymakers will outline their expectations for economic growth for the year ahead.

Eyes off Europe?

Barring any surprises – like Italian prime minister Mario Monti’s announcement last Sunday that he intends to resign – for once the eurozone crisis may not dominate investor sentiment, with no major meetings scheduled over the coming week. Data releases including the German IFO survey though will provide more clues as to the economic state of the bloc and subsequently whether the European Central Bank will cut interest rates at its January meeting.

UK inflation debate

In the UK, the trade-off between economic growth and inflation will remain the big topic after well-publicised comments from incoming Bank of England governor Mark Carney (pictured) that central banks should consider scrapping their inflation targets and replace them with a target for economic growth.

The November reading of the consumer prices index, due on Tuesday, isn’t expected to budge much – perhaps edging down slightly according to a Reuters poll of economists – after rising to a five-month high of 2.7% last month when the trebling in university fees and rising food prices forced up the cost of living.

Then on Friday the third estimate of UK GDP for the third quarter is due, with little change expected to the previous surprisingly strong 1% reading. The third quarter number is now but a relic though, with attention fixed on the current quarter. Fears of a ‘triple dip’ into negative growth were slightly alleviated today after the publication of a strong construction sector reading for October.

Will the Bank of England raise its stimulus efforts to boost the economy? Minutes from the Bank of England’s December policy meeting, where the monetary policy committee stayed its hand, are due on Wednesday and will be closely scrutinised by economists.

Updates on the public finances and retail sales are also due next week.