Limited Fed Action Disappoints Global Markets

The Fed said it was extending a program called Operation Twist, which attempts to keep interest rates low, but some say that's not enough.

LONDON (AP) — Global markets fell Thursday after the Federal Reserve balked at providing major new stimulus to the U.S. economy, while key surveys showed manufacturing activity continued to contract in both China and Europe, raising concern over the outlook for the world economy.

At the end of a two-day policy meeting Wednesday, the Fed said it was extending a program called Operation Twist, under which the Fed swaps short-term bonds for longer-term ones to help keep long-term interest rates low.

But analysts said the program's extension might not provide much benefit. Businesses and consumers who aren't borrowing now aren't that likely to change their minds just because rates dropped a little more.

Stan Shamu of IG Markets in Melbourne said in a market commentary that investors were "disappointed" that the Fed had not chosen to embark on a third major round of bond purchases, known as quantitative easing.

Such purchases would lower rates even further. The Fed has completed two such programs, buying more than $2 trillion in Treasury bonds and mortgage-backed securities, to help prop up the economy.

"Sentiment also dampened after the Fed cut estimates for economic growth on the back of a slowing jobs and tough credit markets," Shamu said.

By late morning in Europe, Britain's FTSE 100 was off 0.5 percent at 5,596.68 and Germany's DAX dropped 0.4 percent to 6,368.42. France's CAC 40 shed 0.3 percent to 3,116.07.

Futures augured a weak start on Wall Street with futures for both the Dow and the S&P 500 down 0.2 percent, at 12,740 and 1,347.50, respectively.

Appetite for financial assets such as stocks was also dented by the results of a monthly HSBC survey which showed that manufacturing in China, the world's No. 2 economy, has continued to contract. China's growth has been a pillar of the global economy in recent years, so its slowdown has been of particular concern to investors.

In the 17-country eurozone, the equivalent manufacturing survey, called the purchasing managers' index, fell to 44.8 points in June from 45.1 the previous month. A number below 50 indicates contraction. A related survey on the services sector also showed declining activity, suggesting a drop in GDP in the second quarter.

"Eurozone manufacturing and services activity clearly suffered in June as heightened uncertainties and concerns over the situations in Greece and Spain reinforced the major economic headwinds already facing the sectors," said Howard Archer, an economist with IHS Global Insight.

European finance ministers are meeting in Luxembourg later in the day to discuss ways to ease the uncertainty over their currency bloc. Fears that individual states like Spain or Italy could be overwhelmed by their debts has caused investors to shy away from lending to those countries.

Spain saw good demand in a bond auction on Thursday, though it had to pay higher rates. Its borrowing costs are painfully high and will have to drop if the country is to avoid asking for international financial aid. That could depend on how much the government needs to give to its banks to keep them solvent.

An independent audit on the Spanish banks' capital needs will be delivered to the government on Thursday. Estimates have ranged from €50 billion to €100 billion (($64 billion to $127 billion).

European leaders are struggling to decouple the risk that banks and government finances pose to each other in Europe. Bank bailouts threaten government finances and weakened government bond prices are causing big losses for banks.

The leaders of Italy, Spain and France support various means of spreading those risks across the eurozone, among which jointly-issued debt. The latest move being considering is allowing the European bailout fund to buy government bonds in the markets, which would lower those countries' borrowing rates. Germany, however, resists such measures for fear they will cost it too much. All four leaders will meet in Rome on Friday to come up with a common position ahead of an EU summit next week that is expected to deliver a broad new plan to strengthen confidence in the eurozone.

Earlier in Asia, Japan's Nikkei 225 index bucked the trend to rise 0.9 percent to 8,824.07. Hong Kong's Hang Seng slid 1.3 percent to 19,265.07 and South Korea's Kospi lost 0.8 percent to 1,889.15.

Markets in Australia, mainland China, India and Singapore also fell.

In commodities markets, the benchmark oil contract for August delivery was down 69 cents to $80.76 a barrel in electronic trading on the New York Mercantile Exchange after earlier hitting an eight-month low.

In currencies, the euro was down 0.2 percent to $1.2674 while the dollar rose 0.4 percent to 79.86 yen.


Pamela Sampson in Bangkok contributed to this report.

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