Wednesday marked the second "risk on" day of the past three, with the updraft on the European and North American markets as manic and - dare we say it - as exaggerated as last week's downdraft arguably was. For a change, Wednesday's market tone was not set by news from Europe, which ranged from the inconclusive (the meeting of the eurozone finance ministers) to the downbeat (October labor market conditions). Instead it was set by global central banks, and by upbeat economic data from the US.

In both cases, it is not easy to make a case that the importance of the news quite justifies the magnitude of the global market reaction. The latest ADP figure in the US is a fairly noisy predictor of employment growth, and one month of employment data should not be enough to alter significantly any careful thinker's view of the US economic outlook. A 10 percent increase in pending home sales looks impressive, until you have a look at the volatility of the series, and the base of comparison.

I can understand why investors may be heartened by the 50 basis point (bp) cut in China's reserve requirement ratio; it signals a willingness to act preemptively rather than focus single-mindedly on an inflation problem that has quite probably peaked, but not yet vanished.

But given the weak linkages between Chinese monetary policy and global economic, monetary, and financial conditions, as well as the fact that Chinese authorities will have to continue balancing inflationary pressures against economic risks, neither the magnitude of the prospective policy shift nor the plausible effect on global economic and financial fundamentals seem proportionate with Wednesday's exuberant market reaction in Europe and North America, followed by Asian markets on Thursday.

Much the same can be said of the coordinated cut in the interest rate on US dollar swaps. This addresses a real problem - the liquidity shortfall in important parts of the European banking system created by what we see as a slow-motion run on European banks by money-market investors. But it does not address the underlying causes of the withdrawal, just reduces by 50bp the cost of the officially provided substitute liquidity and (this is probably more important) extends the program into 2013.

I think Wednesday's market action highlights two relevant features of the existing market context. The first is the power of positioning, both financial and sentimental. If markets have been range-bound for the past couple of months, it is not because they have been subject to weak or static fundamental drivers. It is because they have been subject to very powerful but contradictory pressures, driven on the one hand by deep anxiety about weak fundamentals and substantial tail risks, but offset on the other hand by an equally powerful market context created by bearish sentiment and defensive positioning. Market participants seem as fearful of missing a market updraft as they are of getting caught in a downdraft. Nothing new here, but something to remember next time markets seem to be in a "meltdown" mode.

The second feature is the hunger for the kind of policy response that investors heard about on Wednesday. After a year during which policy in key advanced economies has been, on balance, not wholly convincing, even small steps forward are disproportionately welcome.

It is in this context that we await the outcome of the Dec 9 EU summit, and announcements in the run-up thereto, including (for example) the anticipated announcement of the Italian government's economic and fiscal reform program. Some investors, at least, seem to have come around to the view that things have finally become scary enough to expect EU policymakers to address the underlying problems more definitively than they have been able to do so far. We think the stakes are high in the policy announcements that are made in the coming week.

The author is Managing Director and International Macro Strategist at Barclays Capital. The views expressed here are entirely his own.

(HK Edition 12/02/2011 page2)