Monthly Economic Report (February 2004)

Assessment of the current state of the Japanese economy

  The economy is recovering steadily, supported by business investment and exports.
  As for short-term prospects, the economic recovery in Japan is expected to continue as the world economy recovers. On the other hand, attention should be given to the development of exchange rates in particular.

Policy stance

  The Government will pursue further strengthening of structural reform through early implementation of the "Basic Policies for Economic and Fiscal Policy Management and Structural Reform 2003." While implementing structural reform, the Government will also make efforts in order to seek an early approval by the Diet of the FY2004 budget and related legislation.

  The Bank of Japan raised the upper limit of the target balance of current accounts held at the Bank on January 20, resulting in the new target balance of around 30 to 35 trillion yen. The Government, with the Bank, 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 October-December quarter of 2003 was 1.7% (at an annual rate of 7.0%) higher than in the previous quarter, mainly because of the growth of Private Non-residential Investment, Private Final Consumption Expenditure, and Net Exports (Exports minus Imports) of Goods and Services. This represented the highest growth since the April-June quarter of 1990 (up 2.5% from the previous quarter, at an annual rate of 10.5%). Nominal GDP was 0.7% higher than in the previous quarter.

Private consumption is showing movements of a pickup.
  Private consumption is showing movements of a pickup. Behind this are the facts that income has become roughly flat and that consumer confidence has continued to show an incipient recovery. 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.), declined slightly in December from the previous month, although it has been generally picking up.
  Among individual economic indicators for December, the Family Income and Expenditure Survey shows that real consumption expenditure decreased from the previous month. Out of sales indicators, retail sales decreased from the previous month due mainly to sluggish sales at department stores in reaction to earlier implementation of year-end gift sales campaigns, although automobile sales increased. Home appliance sales increased from a year earlier, as sales of DVDs and thin-shaped TVs continued to be brisk. New car sales posted a month-to-month increase in December and January. Domestic travel increased from a year earlier and overseas travel is on a track to recovery, with the margin of decline narrowing.
  As for short-term prospects, private consumption is expected to recover, if the income environment of households improves.

Business investment is increasing.
  Business investment is increasing thanks to an improvement of corporate profits and progress in capital stock adjustment. The Quarterly Financial Statements Statistics of Corporations by Industry, which is a demand-side indicator of business investment, shows that business investment is on an increasing trend. Software investment remains generally flat.
  According to the Bank of Japan short-term business sentiment survey (tankan), business investment in fiscal 2003 in all industries of all sizes 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. As for leading indicators, machinery orders have been picking up and construction work planned, though fluctuated from month to month, was moderately picking up on average. Business investment is expected to remain on an increasing trend for the immediate future, as corporate profits are expected to continue their improvement.

Housing construction has remained roughly flat.
  Housing construction has remained roughly flat since the beginning of fiscal 2003, although it posted a temporary rise and decrease. In December, housing construction increased 8.8% from the previous month to an annual rate of 1.221 million units due to increase in construction of owned houses, houses for rent and houses for sale. Total floor space generally followed the same movement. Incidentally, housing construction in 2003 increased 0.8% from the previous year to 1.16 million units, posting the first increase in three years, due to moderate increase in construction of owned houses, houses for rent and houses for sale. Housing starts are expected to move steadily if income environments of households improve along with the movements of an incipient recovery 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 supplementary budget for fiscal 2003, public investment-related expenses decreased sharply from the previous fiscal year, as the Government appropriated only about 0.2 trillion yen for disaster countermeasures. Out of local public investment expenses under the fiscal plans of local governments for fiscal 2003, those for projects undertaken by local governments on their own funding have been slashed by 5.5% from the previous year and subjected to systematic curbs and priority-based allocations.
  Reflecting this situation, public works orders, the public works contract value, and orders received by 50 major companies in the October-December quarter of 2003 decreased from a year earlier, as they did in the previous quarter.
  Public investment in the January-March 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 in January and the budgetary conditions of the state and local governments.

Exports are increasing. Imports have been flat. The surplus in the trade and services balance is flat.
  Exports are increasing. By region, exports to Asia, mainly of transportation equipment to ASEAN, are on a moderate increasing trend, although exports to China are moving sideways. Exports to the U.S., mainly of electrical machinery & equipment, have increased. Exports to the EU, mainly of transportation equipment, have increased. As for the outlook for exports, close monitoring is required for the movement of exchange rates, although exports are expected to increase in line with the steady recovery in the world economy.
  Imports as a whole have been flat, as imports of mineral fuels have decreased, although imports of machinery equipment, such as office equipment, are on an increasing trend. By region, imports from Asia, mainly of textile products from China, have increased moderately. Imports from the U.S., mainly of machinery equipments, such as aircrafts, have decreased. Imports from the EU have been generally flat, although the monthly fluctuation has become bigger.
  Looking at the international balance of payments, the surplus in the goods and services account has been flat, as exports in volume have increased and imports have remained flat, although the deficit in the services account increased.

2. Corporate activities and employment

Industrial production is increasing.
  Industrial production is increasing. Mainly in information-related producer goods and capital goods, industrial production is increasing in broad goods, reflecting increases in exports and business investment. Although inventory remains at a low level, corporations are cautious about inventory building.
  As for the prospects of industrial production, the recovery is expected to continue through exports on the strength of the steady recovery in the world economy. Incidentally, the Survey of Production Forecasts indicates industrial production is expected to increase in January 2004 and decrease in February.
  Tertiary industry activities are increasing moderately.

Corporate profits have continued to improve. Firms' judgement on current business conditions shows improvement. The number of bankrupt companies, which had been on a downtrend, has become flat recently.
  According to the Quarterly Financial Statements Statistics of Corporations by Industry, corporate profits in the July-September quarter of 2003 continued to increase from the level of the previous year, reflecting corporations' restructuring efforts including personnel cost reductions, and an increase in sales. Corporate profits on a seasonally adjusted basis also continued to post a quarter-to-quarter increase. In the October-December quarter of 2003, many of the listed companies, mainly automobile and electric machinery makers, posted a quarter-to-quarter increase in profits. According to the Bank of Japan short-term business sentiment survey (tankan), corporate profits are expected to increase in fiscal 2003 for the second consecutive year.
  The BOJ tankan survey shows that business sentiment continued improving among manufacturers and showed an improvement among non-manufacturers.
  The number of bankruptcies, which had been on a decreasing trend, has become flat recently. Incidentally, the number of bankruptcies in January 2004 was the lowest level in five years for the month of January, reflecting the increase in the number of applications for safety net guarantees.

While the employment situation still remains severe with the unemployment rate remaining at a high level, movements of an incipient recovery can be seen.
  The employment situation remains severe with the unemployment rate remaining at a high level due to labor demand factors, such as corporations' reduction stance of personnel expense, and structural factors, such as a mismatch between job offers and seekers.
  The unemployment rate in December dropped 0.3 points from the previous month to 4.9%, falling below 5% for the first time in 2 years and 6 months. The number of persons not in the labour force decreased, as the number of unemployed persons decreased and the number of employed persons increased.
  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 picked up and overtime hours worked in the manufacturing industry have been on a rising trend.
  The underlying trend of contractual cash earnings has remained flat. Meanwhile, special cash earnings, including bonuses, have decreased from a year earlier.

3. Prices and the financial market

Domestic corporate goods prices have been on a slight upward trend recently due to a rise in materials prices.Consumer prices are moving sideways.
  Domestic corporate goods prices have been on a slight upward trend recently. Breaking down the recent trend by type of goods, prices of chemical products, iron & steel and nonferrous metals have been rising, reflecting a rise in materials prices. Import prices (yen basis) have been rising, reflecting a rise in the international commodity market.
  Corporate services prices have remained below the levels of the previous year.
  Consumer prices, which had been weakening since the autumn of 2000, have remained flat on a month-to-month basis supported by a rise in some sectors, such as rice prices. Prices of general commodities have been declining at a slower pace than in the previous year due to a rise in prices of rice. On the other hand, general services prices remained generally flat. Public utility charges rose from the previous year.
  Although domestic corporate good prices are rising slightly, price-boosting factors behind consumer prices may prove to be short-lived. Taken together, these movements show that the Japanese economy is in a mild deflationary phase.

The yen has appreciated against the U.S. dollar. Stock prices have moved mostly above the 10,000-yen level (the Nikkei average).
  The yen, which began to appreciate in mid-December, has been moving at the 105 level against the U.S. dollar recently. The euro seesawed against both the yen and the U.S. dollar. Stock prices, which had been on a downward trend since late January on yen's appreciation against the U.S. dollar, have moved mostly above the 10,000-yen level (the Nikkei average).
  Short-term interest rates are stable. Long-term interest rates moved sideways, standing at above 1.2%. Enterprises' financial conditions have improved, and the yield spread between corporate and government bonds has remained at a low level.
  The growth of the monetary base has remained high (at 10.0% if current deposits by Japan Post are excluded) against the background of ample fund provision from the BOJ, but the growth rate has slackened. The growth rate of the M2+CD money supply has remained at around 1.5% since October.

4. Overseas economies

The world economy has been recovering steadily.

In the United States, the economy is recovering strongly.
  The U.S. economy grew at a 4.0% annual rate in the October-December quarter of 2003 and 3.1% for the whole of 2003. The economy will continue its recovery trend and is expected to post a high growth rate of about 4 1/2% for the whole of 2004.
  On the other hand, although employment is picking up against the background of improvement in corporations' willingness to hire, the pickup is still moderate.
  The Federal Open Market Committee (FOMC) at its meeting in late January indicated that it could be patient in removing its policy accommodation.
  According to the Budget Message announced in early February, the U.S. fiscal deficit in the fiscal year 2004 is expected to come to about 521 billion dollars (4.5% of GDP). But the government has announced it plans to cut the deficit in half over the next five years by restraining the growth of discretionary spending.

Asia has seen continued economic expansion in China and Thailand, and the other Asian economies show increasing signs of recovery.
  In China, the economy has been expanding due to a steady increase in consumption and a rise in production caused by growth of exports. On the other hand, there are concerns about overheated business activities in some sectors. In Thailand economic expansion continues led by consumption and investment. In Malaysia, the economy is expanding moderately due to increases in consumption and exports. In Taiwan, the economy is recovering, with consumption increasing moderately while exports and production increase. In Singapore, the economy is recovering, with exports increasing. In South Korea, the economy shows signs of picking up, with exports and production increasing
  In Asia, avian influenza is spreading and influencing related businesses, but it is expected to have only a limited effect on the Asian economy as a whole for the time being.

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 quarter-to-quarter growth rate remaining in positive territory for two consecutive quarters. Business sentiment continues its improvement and production has been picking up recently. The German economy, which was slow in its recovery, is picking up, with production picking up. The French has been recovering, with exports and production increasing moderately.
  In the U.K., the economy grew at a 3.8% annual rate in the October-December quarter. The economy has been recovering steadily, as consumption continues to increase amid rising housing prices. The Bank of England raised the official interest rate (repo rate) by 0.25 percentage points to 4.00% in early February.

International financial situations
  As for the international financial situations, U.S. stock prices have remained on a rising trend supported by the recovery of corporate performance. Stock prices in Europe and Asia moves sideways. Long-term interest rates in major countries remain mostly flat. The U.S. dollar depreciates, as U.S. current account deficit remains at a high level.
  Oil prices weakened on market forecasts of a remote possibility of oil production cutback by OPEC, but then rose as OPEC ministers agreed on a cutback at their extraordinary meeting in early February.