Monthly Economic Report (December 2001)

Assessment of the current state of the Japanese Economy

The economy continues to deteriorate.

Private consumption is weakening. The employment situation has become increasingly severe with the unemployment rate rising to a new record level.

Industrial production and corporate profits have been falling substantially, and business investment is also declining.

Companies' judgement on business conditions has deteriorated further.

As for short-term prospects, there are concerns over a simultaneous slowdown of the world economy.

Policy stance

The Government, based on "Structural Reform of the Japanese Economy: Basic Policies for Macroeconomic Management" and the "Reform Work Schedule", which provides a roadmap for reform, is to carry out unceasing structural reforms, and endeavor for an early implementation of the more recently formulated "Front-Loaded Reform Program".

On December 4th, the Government made a Cabinet decision on the "Guidelines for Formulation of the Fiscal 2002 budget" with the Fiscal 2002 Budget characterized as a budget committed to reform.

In addition, given the current severe economic situation, the Government decided, on December 14th, the "Emergency Response Program" in order to further accelerate structural reforms and to prevent the economy from falling into a deflationary spiral. The Government will subsequently formulate the Second Supplementary Budget for Fiscal 2001.

Detailed explanations

1.Demand trends such as consumption and investment

Real GDP (Gross Domestic Product) in the third quarter of 2001 was 0.5% (at an annual rate of 2.2%) lower than in the previous quarter, despite the growth of Non-residential Investment, mainly because of the negative growth of Private Consumption. Nominal GDP was 0.8% lower then in the previous quarter.

Personal consumption is weakening.

The Synthetic Consumption Index has continued to show some weakness in recent months.

Looking at the Family Income and Expenditure Survey, which is a demand-side indicator, real consumption expenses in October 2001 increased over the previous month thanks to an increase in expensive consumption goods, such as purchases of automobiles.

Sales statistics show that retail sales still have a weak tone. Department store sales decreased from a year earlier, as sales of autumn clothing, which had been brisk in the previous month, slowed down. Chain store sales decreased sharply from a year earlier partly in reaction to strong sales in connection with a bargain sale commemorating the victory in the professional baseball pennant a year earlier and partly due to a decrease in sales of foods.

As for durable consumer goods, auto sales continue to be weak as orders for standard and compact cars decreased, although orders for mini cars continued to be brisk due to the effect of new models. Home appliance sales continued to be weak due in part to a continued large decrease in personal computer sales.

Travel expenses decreased, with overseas travel posting a sharp decrease due in part to the effects of the terrorist attacks in the United States and domestic travel also posting a year-on-year decrease.

In terms of such movement on both the demand and supply sides, personal consumption is weakening.

As for the movement of household income, which has a large impact on the movement of personal consumption, contractual cash earnings continued to be smaller than a year earlier. Cash earnings continued to decrease from a year earlier.

Consumer confidence has been weakening due to the deterioration of the employment situation.

As to the case of mad cow disease (bovine spongiform encephalopathy), although beef sales and sales at Yakiniku beef barbeque restaurants decreased, they account for a small share of personal consumption as a whole and therefore the effect is not likely to have a major impact on total consumption. Nevertheless, continued attention is needed in this area.

Business investment is decreasing.

Business investment, which had been on the increase in 2000 and a supporting factor for the economy, has been decreasing since the turn of the year due partly to a slowdown in production and a decline in corporate earnings. The Quarterly Survey of Corporate Enterprises, which is a demand-side indicator, shows that business investment decreased in the April-June quarter and the July-September quarter. Shipment of capital goods, which is a supply-side indicator of machinery equipment investment, has been decreasing since the beginning of the year. Software investment has been on an upward trend.

Business investment is likely to continue its decrease, as business investment in fiscal 2001, both in the manufacturing and non-manufacturing industries, is expected to decrease in the Bank of Japan short-term business sentiment survey (tankan) and machinery orders, a leading indicator of machinery equipment investment, has remained on a decreasing trend since the January-March quarter and is expected to post a decrease in the October-December quarter.

Housing investment remains broadly flat.

Housing construction posted two consecutive quarter-to-quarter decreases in the January-March and April-June quarters of 2001, although approximately 1.2 million units had been constructed each year since 1999. This is mainly because condominium starts, which posted a solid gain last year, have turned steady, and because starts of publicly financed owned houses decreased sharply after the turn of the year. Housing construction in October came to an annual rate of 1.146 million units due mainly to a decrease in condominium starts, although it came to an annual rate of more than 1.2 million units in the July-September quarter.

Behind this lies the fact that consumer sentiment with regard to acquiring houses has been declining due to the severe employment and income environments and a long-term downward trend of real estate prices that has weakened replacement demand.

Factors that decrease housing construction are still observed. For example, the number of applications for housing financing to the Housing Loan Corporation has fallen.

Public investment has been generally sluggish.

Public investment has been generally sluggish. Looking at the initial budget for fiscal 2001, the government's public investment-related budget for the year is close to the same amount as in the previous fiscal year, but local governments have continued to curb investment expenses because of their tight financial positions.

Reflecting the situation, the contracted amount of public works in the July-September quarter continued to be lower on a year-on-year basis. A year-on-year decline on a quarterly basis has been continuing for two and a half years. Orders received by 50 major companies have posted a year-on-year decrease for three consecutive quarters. But the magnitude of the decline shrank in comparison with the January-March and April-June quarters.

In view of the decreasing trend of local governments' investment expenses, public investment is likely to continue to post a year-on-year decrease in the October-December quarter.

In the Second Supplementary Budget for Fiscal 2001, which will be compiled in response to the "Emergency Response Program" (decided on December 14th), the Government intends to secure projects worth about 4.1 trillion yen by providing non-interest bearing loans of a total of 2.5 trillion yen, 1.5 trillion yen for public works projects and 1 trillion yen for facility expenses, by implementing special measures for "Reform-Promotion Public Investment" that makes the most of the government's funds without easily resorting to an additional issuance of government bonds under the policy of restraining "government bond issuance to less than 30 trillion yen."

Exports are decreasing. Imports are decreasing sharply. The surplus in the trade and services balance has remained broadly flat.

Exports, which had been decreasing sharply against the backdrop of a slowdown of the world economy, narrowed the magnitude of decline as a whole thanks to a slower decrease in exports of electrical devices and general machinery and to an increase in exports of automobiles, mainly to the U.S. However, exports still remain on a downward trend on the whole, as the increase in exports of automobiles is believed to be a temporary one. Exports to the U.S. increased on the whole on the strength of the increase in exports of automobiles. Exports to Asia have been decreasing at a slower pace recently. Although the adverse effects of the terrorist attacks in the United States have yet to be felt clearly, if the simultaneous slowdown of the world economy continues for a long period, it is likely to put further downward pressure on Japanese exports.

Imports have decreased sharply, reflecting weak domestic demand. By item, imports of machinery equipment such as IT-related goods have posted a sharp decrease. By region, imports from the U.S., especially of machinery equipment, have decreased sharply. Imports from Asia have been on a downward trend, as imports from China have leveled off. Imports from EU have also been on a downward trend.

Looking at the international balance of payments, the surplus in the trade and services account has remained broadly flat as exports continued to decrease, albeit at a slower pace, and imports decreased sharply.

2. Corporate activities and employment

Industrial production has decreased sharply and the inventory/shipment ratio has remained at a high level.

Industrial production has posted a sharp decrease since the turn of the year. One of the reasons for this is that production of IT-related items has been decreasing due to fewer exports.

Industrial production is expected to fall in November and rise in December. There is concern over the prospects of industrial production as the inventory/shipments ratio remains at a high level, although inventories decreased.

On the other hand, tertiary industry activities are decreasing in recent months.

Corporate profits have decreased sharply, especially in the manufacturing sector. Firms' judgement on current business conditions has deteriorated further. The number of bankrupt companies is considerably high.

According to the Quarterly Survey of Corporate Enterprises, corporate profits as a whole have hit a ceiling partly due to a slower decrease in personnel expenses since the turn of the year and partly to a smaller increase in sales, although they had been improving since 1999. Manufacturing industries, especially electric machinery, posted a sharp decrease in profits in the July-September quarter as sales also decreased. According to the Bank of Japan short-term business sentiment survey (tankan), industries as a whole, and the manufacturing industries in particular, are expected to see their profits decline sharply in the second half of fiscal 2001, as they did in the first half.

The BOJ Tankan survey says business sentiment has been deteriorating sharply. The business sentiment of steel and electric machinery firms in the manufacturing sector and of construction and wholesale firms in the non-manufacturing sector are particularly severe. As for future prospects, corporations, in particular small and medium-sized enterprises, forecast further deterioration of their business.

According to Tokyo Shoko Research, Ltd., 1,843 companies went bankrupt in October, which was a rather large amount.

The employment situation has become increasingly severe, with the unemployment rate rising to an all-time high and the number of job offers, overtime hours worked and wages continuing to weaken.

The unemployment rate in October rose 0.1% over the preceding month to hit an all-time high of 5.4%. While the unemployment rate of women declined, the unemployment rate of men rose as the number of male employees decreased and the number of unemployed men increased. As for the unemployed, the number of involuntary job leavers has increased, in addition to the number of voluntary job leavers, which has also been increasing recently.

The number of new job offers continued to decrease on a year-to-year basis. Both the new job offer ratio to applications and the effective job offer ratio decreased from the previous month due to a sharp increase in the number of job seekers, although the number of job offers increased on a month-to-month basis. Overtime work hours in the manufacturing industries decreased for 12 consecutive months on a month-to-month basis. The proportion of business establishments that implemented employment adjustment, such as "overtime restrictions," increased in the manufacturing industries, although it remained unchanged on the whole. The number of corporations saying they have excess employees has been increasing, especially among manufacturers.

Wages continued edging down, with total cash earnings and contractual cash earnings continuing to decrease from a year earlier.

3.Prices and the financial market

Domestic Wholesale Prices expanded the margin of decline and Consumer Prices are declining slightly.

Import Prices have been falling both on a yen basis and on a contractual currency basis. Domestic Wholesale Prices have been declining slightly since the beginning of 2001. Recently, the margin of price decline has expanded slightly, as prices of Electrical machinery have decreased, reflecting technological innovation and a slowdown in demand and as crude oil prices declined. The Corporate Service Price Index has continued to decline from a year earlier.

Consumer Prices have been declining slightly since the fall of 2000. Although General services remained flat, Commodities declined due to a fall in the prices of Durable goods.

Taken together, these movements show that the Japanese economy is in a mild deflationary phase in that the decline in prices is continuing.

Financial market : The stock market and long-term interest rates remained almost flat.

Looking at the short-term interest rates, the overnight call rate moved at 0.002-0.004% in November and early December, reflecting the Bank of Japan's monetary easing policy. Two- and three-month contracts, which had continued to move at a low level since April, remained flat in November and early December. Long-term interest rates rose in July and early August but then moved sideways, after being on a downward trend since last fall.

The stock market has been on a downtrend since the spring of the last year. Although the stock market declined further in September due partly to the terrorist attacks in the United States, it rose in October to the level before the terrorist attacks and remained broadly flat thereafter.

On the exchange market, the yen (interbank spot central rate) depreciated to the 125 yen level by early December, after appreciating from the 123 level to the 120 level from late October to early November. Against the Euro, the yen (interbank rate as of 17:00) depreciated to the 112 level by early December, after appreciating to the 107 level in mid-November.

The growth rate of M2+CDs (monthly average balance) has recently remained broadly flat, after accelerating slightly since the beginning of this year, reflecting the shift of funds from postal savings (November preliminary report: up 3.2% over a year earlier). The total amount of loans provided by private financial institutions (average balance of all loans) has been decreasing on a year-on-year basis since the fall of 1996. It remains at a low level, reflecting corporations' weak demand for funds and so forth. Interest rates on bank loans have recently remained broadly flat, after being on a falling trend since the beginning of this year, reflecting easier monetary policies. According to the BOJ Tankan survey, corporate perceptions of overall financial conditions and the lending stance of financial institutions are deteriorating slightly among large, medium and smaller enterprises.

4.Overseas economies

The world economy has been slowing down simultaneously.

The world economy has been slowing down simultaneously.

The U.S. economy is in recession. Although private consumption has remained weaker than before the terrorist attacks, there are the favorable effects of the recent sharp increase in sales of automobiles. Domestic demand is decreasing as housing investment has leveled off and capital spending continues to decrease sharply. Although manufacturing activities are slowing down with declining in capacity utilization amid the continuing inventory adjustment, orders are increasing thanks to a sharp rise in orders for military capital goods. Employment is falling substantially and the unemployment rate is rising rapidly. Prices declined recently due to a fall in energy prices, although they remain firm.

In Europe, the economy is slowing down in Germany. In France, the pace of economic expansion has been decelerating. In the U.K., the economy is expanding moderately.

In Asia, the pace of economic growth has been slowing down in China in recent months due to the deceleration of export growth, although personal consumption and fixed asset investment are steady. South Korea's economy is slowing down due to decrease in industrial production and exports, while it shows some signs of firmness.

As for the international financial situation, both the dollar and stock prices eased slightly in late November, after staying firm earlier in the month on expectations of an early resolution of the situation in Afghanistan. The target range of short-term interest rates in the U.S. was lowered by 0.25 percentage point to 1.75% at the Federal Open Market Committee meeting held on December 11. As a result, the federal funds rate has dropped to its lowest level since July 1961.

As for movements in the international commodity market, crude oil prices, which had remained on a downward trend, plunged because the cutback agreement reached at the OPEC extraordinary meeting on November 14th was conditional to concerted cutbacks by non-OPEC oil producers. But prices picked up after some non-OPEC oil producers agreed to the cutbacks.