Monthly Economic Report(May 2003)

Assessment of the current state of the Japanese economy

While the economy has become roughly flat, uncertainty still remains.

As for short-term prospects, the economy is expected to move towards an incipient recovery if the recovery in the U.S. and other economies sustains. On the other hand, there are concerns that the uncertainties surrounding the future of the U.S. economy, the development of stock prices, and the impact of the Severe Acute Respiratory Syndrome (SARS) may exert a downward pressure on final demand.

Policy stance

The Government will watch carefully the financial and economic situation, and aim to realize sustainable economic growth led by private demand by promoting structural reform in the four main fields - finance, taxation, expenditure, and regulation. Furthermore, on the basis of the "Measures to Reform and Vitalize Securities Market," measures will be implemented promptly as they become available.

On May 17, the Government held a meeting of the Financial System Management Council and acknowledged the need to enhance the capital of Resona Bank in order to prevent financial crisis. Also on the same day, the Bank of Japan decided to provide liquidity promptly to Resona Bank, when necessary. Following its decision on April 30, the Bank of Japan decided on May 20 to again change the guideline for money market operation, and raised the target balance of current account held at the Bank to around 27 to 30 trillion yen. The Government, with the Bank of Japan, will continue to take powerful and comprehensive actions to secure stability of money and capital markets and to emerge from deflation.


Detailed explanations

1.Demand trends such as consumption and investment

Real GDP (gross domestic product) in the first quarter of 2003 increased 0.0% from the previous quarter, despite the positive growth of private non-residential investment and private consumption, mainly because of the negative growth of public investment, private inventory, and net exports (exports minus imports) of goods and services. Nominal GDP was 0.6% lower than in the previous quarter.

Private consumption remains generally flat.

Private consumption remains generally flat, although the environment surrounding households still remains severe, such as continued weakness of income. Behind this is the fact that consumer confidence, which declined in March due to the effect of the war in Iraq, has decreased its rate of decline, though it remains at a low level.

As for movement on the demand side, although declining since last year, the rate of decline has been decreasing. The Synthetic Consumption Index, which posted a month-to-month increase for two consecutive months, decreased in March. It posted a decrease from three months before. The Family Income and Expenditure Survey shows that real consumption expenditure increased from the previous month.

Sales have begun to show signs of stopping decreasing. The margin of decrease in retail sales has been on a narrowing trend, though it widened slightly in March. Chain store sales continued to decrease from a year earlier. Department store sales decreased at a faster pace than a year earlier due mainly to poor sales of spring clothing caused by cold weather. New car sales decreased from a year earlier in reaction to the last-minute purchases in connection with a reform of the greening of the automobile tax system. Home appliance sales as a whole decreased from a year earlier, as sales of personal computers, a staple merchandise item, continued to decrease from a year earlier. Domestic travel continued to decrease from a year earlier. Overseas travel decreased due to the war in Iraq and the Severe Acute Respiratory Syndrome (SARS).

As for short-term prospects, there are concerns that the problem of SARS and sluggishness of stock prices may adversely affect consumer confidence and exert a downward pressure on consumption.

Business investment has been picking up.

Business investment, which had been decreasing since the beginning of 2001, has picked up, as corporate earnings have been recovering. The Financial Statements Statistics of Corporations by Industry Quarterly, which is a demand-side indicator of business investment and which had been decreasing since the January-March quarter of 2001, picked up in the October-December quarter of 2002. Shipment of capital goods, which is a supply-side indicator of machinery equipment investment, has picked up slightly. Software investment has decreased slightly.

As for leading indicators and annual plans, according to the Bank of Japan short-term business sentiment survey (tankan), business investment in fiscal 2003 in the manufacturing industry is expected to increase for the first time in three years and corporations' sense of excess capacity, which indicates future business investment, has continued its improvement. However, although machinery orders, which serve as a leading indicator of machinery equipment investment, have continued to pick up, construction orders received, which serve as a leading indictor of construction investment, remained almost flat. Business investment as a whole is expected to remain moderate for some time to come. The pickup in business investment by manufacturers is expected to be moderate due to uncertainty about the future course of external demand and other final demand, and non-manufacturers are about to complete the first stage of big redevelopment projects in the Tokyo metropolitan area.

Housing investment  is almost flat.

Housing construction in FY2002 decreased 2.4% from the preceding fiscal year to 1.146 million units, falling below 1.2 million units for two consecutive years, as construction of owned houses and houses for sale decreased although construction of houses for rent increased. The factor behind the decrease in housing construction is that consumer sentiment with regard to acquiring houses has been declining due to the harsh employment and income environments and the long-term downward trend of real estate prices that has weakened replacement demand. Housing construction increased to an annual rate of 1.195 million units in January but decreased to an annual rate of 1.154 million units in February and decreased to an annual rate of 1.098 million units in March. Total floor space followed the same movement. Housing investment was almost flat as a whole, as construction of houses for rent, which had kept decreasing, increased, construction of owned houses decreased at a slower pace, and construction of houses for sale moved almost sideways.

However, factors that decrease housing construction are still observed. For example, consumer sentiment with regard to acquiring houses has been declining.

Public investment has been generally sluggish.

Reflecting the budget situations of the state and local governments, public investment has been generally sluggish.

In the supplementary national budget for FY2002, the Government took budgetary measures for public investment promoting structural reform. However, the size of the public investment after the supplementary budget was much smaller than that in the previous fiscal year, when special measures for "Reform-Promotion Public Investment" were implemented. Under the fiscal plans of local governments for FY2002, regarding investment expenses, those for projects to be undertaken by local governments on their own funding are to be slashed by 10.0% from the previous fiscal year.

Reflecting this situation, the contracted amount of public works and public works orders received posted a year-on-year decrease from the April-June quarter of 2002 to the January-March quarter of 2003, and orders received by 50 major companies also posted a year-on-year decrease during the period except for the October-December quarter of 2002, when they posted an increase, although the supporting effects of the second supplementary budget for FY2001 that was carried over into FY2002 were seen.

In the national budget for FY2003, the Government slashed public investment-related expenses by 3.7% from the previous fiscal year and prioritized budget allocations to areas that will lead to the expansion of employment and private demand, mainly to the four focused areas, including "building attractive urban areas and local areas with their own ideas and characteristics." Under the fiscal plans of local governments for FY2003, regarding investment expenses, those for projects to be undertaken by local governments on their own funding are to be slashed by 5.5% from the previous fiscal year through systematic restraint and focused allocation.

Exports are increasing gradually.  Imports are increasing gradually.  The surplus in the trade and services balance is increasing slightly.

Exports, which had lost the rising momentum seen up to the middle of last year as restocking, especially of IT-related equipment, since the beginning of the year came to a halt, increased gradually as a whole, as machinery equipment remained relatively firm. By region, exports to Asia as a whole remained in an increasing trend, although exports to China have been decreasing recently due to the effect of the Lunar New Year. Exports to the U.S. have been decreasing at a slower pace, as the decrease in exports of automobiles caused by a halt in inventory replenishment and a decrease in sales volume was coming to a halt. Exports to the EU, especially of automobiles and other machinery equipment, increased moderately. As for the outlook for exports, the potential for recovery in exports is weak, as the recovery of the U.S. economy has been weakening and due to the effect of SARS on Asian economies.

Imports increased moderately as imports of mineral fuels continued to increase and imports from China remained on an increasing trend, although production is weakening slightly. By region, imports from Asia increased moderately as a whole, as imports from ASEAN countries remained flat and imports from China, especially of machinery equipment, increased, although imports from NIEs decreased. Imports from the U.S. decreased slightly as a whole due to a decrease in imports of machinery equipment, such as aircraft and office equipment. Imports from the EU, especially of machinery equipment, decreased.

Looking at the international balance of payments, the surplus in the trade and services account increased slightly, as the deficit in the services account narrowed due to a decrease in Japanese tourists abroad, although the trade account was almost flat due to moderate increases in both export and import volume.

2. Corporate activities and employment

Industrial production has declined somewhat.

Industrial production has declined somewhat, as the increase in exports remained moderate amid the continuing weak movement of final demand. Although inventory is at a low level, corporations are cautious about inventory buildup due to uncertainty about the future course of external demand and other final demand, failing to lead to an increase in production.

As for the prospects of industrial production, although there will be no downward pressure on production from inventory, the potential for production recovery is expected to remain weak, as domestic final demand is expected to remain sluggish and any recovery led by exports is not seen as being so strong due to uncertainty about the future course of the U.S. economy. Incidentally, according to the Survey of Production Forecast, industrial production is expected to fall in April and rise in May.

Tertiary industry activities, especially in the service industry, have declined moderately.

Corporate profits are improving. Firms' judgement on current business conditions continues improving, albeit moderately. The number of bankrupt companies remains almost flat.

According to the Financial Statements Statistics of Corporations by Industry, Quarterly, corporate profits continued to increase in the October-December quarter of 2002, reflecting corporations'cost reduction, mainly personnel expenses, through restructuring efforts. According to the Bank of Japan short-term business sentiment survey (tankan), corporate profits are expected to post a sharp, double-digit year-on-year increase from the second half of FY2002 to FY2003. By type of industry, profits of the manufacturing industry, especially electrical machinery and steel, are expected to post a year-on-year increase of 40% in the second half of FY2002 and a double-digit increase in FY2003. On the other hand, profits of the non-manufacturing industry are expected to post a slight increase in the second half of FY2002 and a double-digit increase in FY2003. By size, both big corporations and small and medium-sized corporations are expected to see their profits increase in FY2003.

The BOJ tankan survey says the business sentiment of automobile and other big manufacturing industries stopped improving, although business sentiment, especially of small and medium-sized manufacturers, has been improving, albeit moderately. As for future prospects, enterprises have been cautious, forecasting a slight deterioration of their business.

The number of corporate failures remained almost flat, chiefly because the number of applications for safety net guarantees is increasing.

The employment situation still remains severe, with the unemployment rate remaining at a high level.

The employment situation remains severe with the unemployment rate remaining at a high level due to manpower requirement factors, such as corporations' personnel expense reduction stance, and structural factors, such as mismatch of employment.

The unemployment rate rose 0.2% in March from the preceding month to 5.4%. By gender, while the unemployment rate for women dropped, the unemployment rate for men rose. The number of male employees remained flat but the number of unemployed men increased. Although the number of employees remained flat as a whole, it increased in March.

The number of new job offers, which had been on an increasing trend since the first half of 2002, has slowed down its increasing pace since the beginning of 2003. The effective job offer ratio remained almost flat. Overtime hours worked in manufacturing industries has been on a moderate increasing trend.

Wages remained weak, with total cash wages decreasing from the previous year, although contractual cash earnings posted an increase on a year-to-year basis and remained flat on a month-to-month basis.

3. Prices and the financial market

Both Domestic Corporate Goods Prices and Consumer Prices are moving sideways.

Import prices (yen basis), for which the upward trend had been weakening since late 2002, have been rising due to the effect of a rise in crude oil prices caused by the situation surrounding Iraq. Domestic corporate goods prices have been moving sideways. Recently, the prices of petroleum & coal products, which had been rising due to a rise in crude oil prices, fell in April. The prices of chemicals have been rising and the prices of iron & steel have been also rising reflecting steady exports to Asia, although the prices of electrical machinery have been declining.

The Corporate Service Price Index has continued to decline from a year earlier.

Consumer prices, which had been declining slightly since the fall of 2000, remained flat from the previous month due to the effect of a rise in crude oil prices. In general commodities, the prices of other industrial products started to go up due to a rise in the prices of petroleum products caused by a rise in crude oil prices, although the prices of durable goods declined. On the other hand, the prices of general services moved sideways. Corporations' low-price strategies have begun to show signs of changing. The effect of a hike in the ratio of copayment under the health insurance scheme on public utility charges was seen in April.

Prices are moving sideways and the effect of a rise in crude oil prices may prove to be temporary. Taken together, these movements show that the Japanese economy is in a mild deflationary phase.

Financial market: Stock prices hit the lowest level since 1989, reflecting concerns about slackening demand. The yen has been recently appreciating against the U.S. dollar.

Stock prices have been recently moving at around 8,000 yen (Nikkei Stock Average), after hitting the lowest level since 1989, reflecting concerns about slackening demand. The yen has been on a rising trend against the U.S. dollar, after moving around the 120 level from the beginning of the year till late April.

Short-term interest rates are stable, while long-term interest rates are on a downward trend supported by strong demand from investors. Enterprises' financial conditions have remained almost flat and the yield spread between private bonds and government bonds has narrowed recently.

The growth of the monetary base (monthly average balance) has remained at a high level of above 10% (at the 4% level, if current deposits by Japan Post are excluded) against the background of ample fund supplies from the BOJ, but the growth rate has slackened. The growth rate of M2+CDs (monthly average balance) has been slowing down since late last year.
 

4. Overseas economies

The economic expansion in Asia has become moderate. While the U.S. economy continues to recover, the strength of the recovery is weakening.

While the U.S. economy continues to recover, the strength of the recovery is weakening.

Private consumption is picking up. Consumption of durable consumer goods picked up and retail sales increased, although consumption of non-durable goods and services decreased slightly. The pick-up can be attributable to an improvement in consumer sentiment following an end of the war in Iraq and a decline in gasoline prices.

On the other hand, the movement of the corporate sector, especially of the manufacturing industry, remains weak. Production decreased, and the capacity utilization declined. Business sentiment worsened in manufacturing industry. As a result, business investment decreased again and employment declined, although orders for capital goods remained on a rising trend.

With regard to the future movement of prices, the Federal Open Market Committee acknowledged the probability of an unwelcome substantial fall in inflation at its meeting on May 6.
 

The economic expansion in Asia has become moderate.

In China, the economy is expanding due to solid expansion of both domestic and external demand. In South Korea and Taiwan, the economic expansion has become moderate as domestic demand, such as consumption, slowed. In Thailand, the economy is expanding due to an increase in domestic demand. Because of slackening exports mainly to the United States, the economic expansion has become moderate in Malaysia and the economy has been decelerating in Singapore.

The SARS epidemic is causing adverse effects on the economy in China, Hong Kong and Singapore. Taiwan's exports to China slowed. Production and consumption in these countries and regions began to slow and their economic forecasts were revised downward.
 
The Euro Area and U.K. economies are decelerating.

In the euro area, business confidence is eroding and the unemployment rate is rising amid slowing growth rates. In Germany, the economy continues to weaken and the unemployment rate is rising. In addition, manufacturing orders, which suggest production and investment movement ahead, decreased. In France, the economy is decelerating as consumption has leveled off. Euro area exports have slackened due to the effect of the appreciation of the euro since last autumn and the weakening recovery of the U.S. economy.

In the U.K., the economy is decelerating as consumption has leveled off amid the decreasing trend of production.
 
International financial situations

As for international financial situations, U.S. stock prices began to move upward in the beginning of April, following positive announcements of corporate profits. The dollar began to weaken in early April, reflecting cautious views on the future course of the U.S. economy. In particular, the dollar depreciated sharply against the euro. U.S. long-term interest rates began to fall in late April, reflecting the weakness in economic recovery.

Crude oil prices, which had risen temporarily in mid-April on prospects of a sharp production cut by OPEC, declined as the production cut turned out to be smaller than expected. In May, crude oil prices rose again on renewed prospects of a production cut by OPEC.