Monthly Economic Report (December 2004)

Assessment of the current state of the Japanese economy

  The economy is recovering at a moderate pace recently, while some weak movements are seen.
  As for short-term prospects, the economic recovery is expected to remain solid with steady recovery in the world economy, as the domestic private demand continues to increase. On the other hand, attention should be given to the inventory adjustment in the IT related area, and to the developments of crude oil prices and other factors.

Policy stance

  Acceleration and expansion of structural reforms will be pursued through early implementation of "Basic Policies for Economic and Fiscal Policy Management and Structural Reform 2004." The Government made a cabinet decision on December 3 of the "Basic Principles of FY2005 Budget Formulation," which showed commitment to continue the basic policy of "budget for resolute reform." Furthermore, the Government made a cabinet approval on December 20 of the "Economic Outlook for FY 2005 and Basic Economic and Fiscal Management Measures."

  The Government, with the Bank of Japan, will continue to take powerful and comprehensive actions to secure stability of money and capital markets, and will further strengthen its policy efforts to ensure a breakaway from deflation after the intensive adjustment period.

Detailed explanations

1.Demand trends such as consumption and investment

Private consumption is decelerating recently.
  Private consumption is decelerating recently partly due to the temporary effects of typhoons, although income is moving steadily and consumer confidence has continued to improve. The Synthetic Consumption Index, which synthesizes demand-side statistics (Family Income and Expenditure Survey) and supply-side statistics (Indices of Industrial Producer's Shipment, etc.), posted gain in October from the previous month, but at a slower pace recently.
  Among individual economic indicators for October, the Family Income and Expenditure Survey shows that real consumption expenditure decreased from the previous month. Out of sales indicators, retail sales continued to increase from the previous month, but department store sales decreased caused in part by the effects of the repeated landfalls of the typhoons. Home appliance sales decreased from a year earlier due mainly to sluggish sales of personal computers, but sales of DVD players and LCD/PDP TVs continued to be brisk. New car sales increased in November from the previous month partly in reaction to decrease in October due to fewer working days. Overseas travel increased from a year earlier, although domestic travel decreased from a year earlier caused in part by the effects of the typhoons. Eating out posted a year-on-year rise.
  As for short-term prospects, private consumption is expected to increase if improvement of the employment situation leads to improvement of the income environment.

Business investment is increasing.
  Business investment is increasing thanks to an improvement of corporate profits and increases in demand. The Quarterly Financial Statements Statistics of Corporations by Industry, which is a demand-side indicator of business investment, shows that business investment in manufacturers posted an increase in the July - September quarter of 2004 from the previous quarter and it has increased for four consecutive quarters in non-manufacturers. Shipment of capital goods, which is a supply-side indicator of machinery equipment investment, has been decreasing slightly of late due mainly to the decrease of semiconductor manufacturing equipment. Software investment is moderately increasing. The Synthetic Business Investment Index, which synthesizes the demand-side statistics and the supply-side statistics, has been picking up.
  According to the Bank of Japan short-term business sentiment survey (tankan), business investment in fiscal 2004 is planned to increase for two years on end and the increase rates have been the highest since 1989 for large manufacturers, and since 1990 for smaller manufacturers. And corporations' sense of excess capacity, which indicates future business investment, has remained flat. As for leading indicators, machinery orders have been weakening somewhat partly due to decrease in orders from electrical machinery. Construction work planned have roughly remained flat. Business investment is expected to remain on an increasing trend, as corporate profits are continuing their improvement, although attention needs to be paid to the investment trend of electrical machinery.

Housing constructionhas been increasing recently.
  Housing construction has been increasing recently. This is because construction of houses for sale increased, and construction of owned houses and houses for rent moved steadily. In October, housing construction decreased 5.3% from the previous month to an annual rate of 1.192 million units. Total floor space generally followed the same movement. Housing starts are expected to move steadily if income environments of households recover along with the improvement in the employment situation.

Public investment has been generally sluggish.
  Reflecting the budget situations of the state and local governments, public investment has been generally sluggish.
  In the national budget for FY2004, the Government slashed public investment-related expenses by 3.3% from the previous fiscal year and prioritized budget allocations to areas that will lead to the expansion of employment and private demand, and by scrutinizing the purpose and achievements of each project. Out of local public investment expenses under the fiscal plans of local governments, those for projects undertaken by local governments on their own funding have been slashed by 9.5% from the previous year subjected to systematic curbs over a medium term and priority-based allocations will be implemented.
  Reflecting this situation, public works orders, the public works contract value, and orders received by 50 major companies in the July - September quarter of 2004 decreased from a year earlier, as they did in the previous quarter.
  Public investment in the October - December quarter of 2004 is likely to continue posting a year-on-year decrease in view of the decreases in the contracted amount of public works, etc. in October and November, as well as of the budgetary conditions of the state and local governments.

Exports have been weakening recently. Imports are moving sideways. The surplus in the trade and services balance has been flat.
  Exports have been weakening recently. By region, exports to Asia have been on a moderate increasing trend, as exports to China, mainly of electrical machinery & equipment, began to pick up. Exports to the U.S. as a whole have remained flat, as electrical machinery & equipment increased while transportation equipment decreased. Exports to the EU, mainly of transportation equipment, have been slightly decreasing. As for the outlook for exports, attention needs to be paid to the movement of exchange rates, although exports are expected to increase in line with the steady recovery in the world economy.
  Imports are moving sideways. By region, imports from Asia slackened as imports of machinery equipment decreased, while those of mineral fuels increased. Imports from the U.S., mainly of chemical goods and raw materials, have decreased. Imports from EU, mainly of chemical goods, have decreased, although machinery equipment increased.
  As for the international balance of payments, the surplus in trade balance decreased, as exports in volume have been declining somewhat recently and imports have become flat. On the other hand, the surplus in the goods and services account has become flat, as the deficit in the services account has been on a declining trend.

2. Corporate activities and employment

Industrial production has been weakening somewhat.
  Industrial production is weakening somewhat, as production adjustment movement of information-related producer goods has been accelerated and exports have been weakening of late. Inventory, mainly of information-related producer goods, is increasing, although it remains at a low level as a whole.
  As for the prospects of industrial production, the recovery is expected to be slowed as production adjustment movement of information-related producer goods continues, although the world economy has been recovering steadily. The Survey of Production Forecasts indicates that industrial production is expected to increase in November but is expected to decrease in December.
  Tertiary industry activities are increasing moderately.

Corporate profits are improving sharply. Firms' judgment on current business conditions observes a slower improvement. The number of bankrupt companiesis decreasing.
  According to the Quarterly Financial Statements Statistics of Corporations by Industry, corporate profits in the July-September quarter of 2004 have posted a year-to-year increase of 37.8%, which is the highest growth rate since the April - June quarter of 2000, as sales are increasing, which has been continuing for nine consecutive quarters. Among industries, profits of the manufacturing industry increased 35.6%, and profits of the non-manufacturing industry increased 39.3%. According to the BOJ tankan survey, both manufactures and non-manufactures are planning an increase in profit for three consecutive years in fiscal 2004. They upgraded the profit projection in the first half of the fiscal year, but downgraded it in the second half.
  The BOJ tankan survey also shows that improvement of business sentiment comes to a halt. The diffusion index in large manufacturing industry remains at a high level, although it decreased from a month earlier for the first time in 7 quarters.
  The number of bankrupt companies is decreasing. The number of corporate failures was less than 1,100, which is the lowest level since 1990 for November.

The employment situation is improving, though some severe aspects remain.
  The employment situation is improving, though some severe aspects remain.The unemployment rate is, while remaining at a high level, on a downward trend.
  The unemployment rate in October rose 0.1 percent point from the previous month to 4.7%. The number of employed persons decreased due to decrease of self-employed workers and family workers, and the number of unemployed persons increased. On the other hand, there are severe situations as the unemployment rate of age group between 15 and 24 years old is at a high level.
  The number of new job offers has been on an increasing trend. The effective ratio of job offers to applicants has been rising. The number of employees has been on a moderately increasing trend. Overtime hours worked in the manufacturing industry have been flat. The proportion of business establishments that implemented employment adjustment, such as "overtime restrictions," which had been on a downward trend, remained the same level as the previous quarter in the July-September quarter. The number of corporations saying they have excess employees has been decreasing, and the employment diffusion index of "Excessive employment" minus "Insufficient employment" in all industries of all sizes was 0 percent point, the first time since March, 1997.
  The underlying trend of contractual cash earnings has remained flat.

3. Prices and the financial market

Domestic corporate goods prices have been increasing due to a rise in materials prices, such as crude oil.Consumer prices are moving sideways.
  Domestic corporate goods prices have been on an upward trend due to a rise in materials prices, such as crude oil. Breaking down the recent trend by type of goods, prices of petroleum and chemical products have been rising, reflecting a rise in crude oil prices, and iron & steel increased due to a rise in commodity markets, while electrical machinery & equipment declined. Import prices (yen basis) have been declining, reflecting the appreciation of the yen, despite a rise in the international commodity market. Breaking down corporate goods prices by demand-stage, there is an increasing movement in intermediate goods to pass a rise in materials prices to the goods prices and the similar movement can also be seen in the final goods.
  Corporate services prices have increased from a year earlier due mainly to a rise in Ocean freight transportation.
  Consumer prices are moving sideways. Prices of general commodities are moving sideways as prices of rice declined, although prices of petroleum products increased. General services prices and public utility charges remained generally flat.
  Although domestic corporate goods prices have been rising, consumer prices remains on a slightly declining trend compared with the previous year. Taken together, these movements show that the Japanese economy is in a mild deflationary phase.

The yen, which appreciated to the 102-yen level against the U.S. dollar (interbank spot central rate), has been moving around 105-yen level recently. Stock prices have moved around 11,000 yen (the Nikkei average).
  The yen against the U.S. dollar depreciated and has been moving around 105 yen recently, after appreciating to the 102-yen level (interbank spot central rate) due to market perceptions that depreciating trend of the U.S. dollar is expected to continue based on the U.S. current-account and fiscal deficits and the revaluation of the yuan. Stock prices, which had temporarily been weak due to concerns about appreciation of the yen, have moved around 11,000 yen (the Nikkei average).
  Short-term interest rates are stable. Long-term interest rates are moving sideways. Enterprises' financial conditions have generally improved, and the yield spread between corporate and government bonds has remained at a low level.
  The growth of the monetary base has become flat. The growth rate of the M2+CD money supply has increased moderately since September.

4. Overseas economies

The world economy has been recovering steadily.

In the United States, the economy is expanding.
  The annual growth rate of GDP in the July - September quarter was 3.9% from the previous quarter, which was mainly driven by the annual growth rate of 5.1% in consumption and the 12.9 % in investment. Against the background of this continuation of the economic expansion, nonfarm payroll employment continues to increase. Incidentally, consumer confidence continues to decline partly due to concerns about the future of the employment situation.
  The consumer price index in October increased 3.2% from a year earlier, and the producer price index increased as high as 4.4% mainly due to the increase of energy prices and food prices caused by temporary factors, such as the hurricanes. The core consumer price index and the core production price index, both excluding foods and energy, increased 2.0% and 1.5%, respectively, from a year earlier.
  At its meeting held on December 14, the Federal Open Market Committee decided to raise its target for the federal funds rate by 25 basis points to 2.25% and restated that policy accommodation can be removed at a pace that is likely to be measured.

Asia has seen continued economic expansion in China and Thailand.
  In China, the economy has been expanding due to a steady increase in consumption and a rise in production caused by growth of exports. The growth of investment in fixed assets has remained at a high level, even though it has slackened. The benchmark rate for one-year lending was raised at the end of October. In Thailand economic expansion continues led by consumption and investment. In Malaysia and Singapore, the economies are expanding due to increases in consumption. In Taiwan, the economy is expanding. In South Korea, some weak movements can be seen in export and production, although the economy continues to recover.

The Euro area economy is recovering moderately, and the U.K. economy has been recovering steadily.
  In the Euro area, the economy is recovering moderately, with the moderate increase in production and an incipient recovery in investment. In Germany, the economy is recovering moderately, but personal consumption has been weak due to slow improvement of the employment situation. In France, the economy is recovering, but industrial production is moving sideways. Incidentally, the euro has appreciated against the U.S. dollar, becoming a cause for concern in the future.
  In the U.K., the economy has been recovering steadily, with consumption continuing to increase. On the other hand, industrial production has been decreasing recently.

International financial situations
  As for the international financial situations, stock markets in the world rose as the background of declining of crude oil price. Long-term interest rates in major countries, which had increased during November, declined following the release of US employment statistics in early December. The U.S. dollar has been depreciating against major currencies due to concerns about a high level of the current-account deficit.
  Oil prices have declined reflecting receding concerns about demand-supply tightening.