Soft Japanese Economic Trends

May 5, 2008

Japanese growth has slowed despite better functioning financial markets than in Europe or the United States. Following the introduction of more stringent building codes, residential housing dropped by 16.4% at a seasonally adjusted annual rate in 2Q07, by 29.4% saar in 3Q07 and by 32.3% saar in 4Q07. Earlier strong corporate profits never trickled down to workers’ pay, and profits have been squeezed more recently. Higher food and energy costs have crimped discretionary real purchasing power on other household items. Real disposable incomes fell 1.6% in the year to 1Q07, and real household spending posted seasonally adjusted month-on-month declines of 2.9% in Feb and 2.2% in March. Employment fell 0.2% y/y in Feb-March compared to an on-year increase of 0.7% in the previous two months. The ratio of job offers to job seekers, a measure of labor market excess demand, fell to 0.95 in March from 0.98 in Dec, 1.05 last Sept, and 1.07 at mid-2007.. Industrial production plunged 3.1% in March, four times greater than the consensus of analyst expectations.

Survey evidence has been disappointing. The Shoko Chukin index, a measure of sentiment at small- and mid-sized firms, posted successive period average scores of 46.4 in 4Q07, 44.8 in 1Q08 and 43.1 in April. Being under 50, these readings connote a contracting trend that is intensifying. Japan’s manufacturing purchasing managers index (PMI) fell to 48.6 in April, lowest since Feb 2003, from a first-quarter average of 50.9. Consumer confidence recorded declining quarterly averages of 47.8 in 1Q07, 46.6 in 2Q07, 44.2 in 3Q07, 40.2 in 4Q07, and 36.8 last quarter.

Remnants of Japanese deflation persist. In Japan, core inflation is defined more narrowly than elsewhere as all consumer prices except those for seasonal foods. Expressed that way, core inflation of 1.2% in March represented a 10-year peak. But if both energy and food are excluded, which is how other governments calculate core inflation, Japan’s rate was just 0.1% y/y in March. That’s well below comparable core inflation of 2.7% in Euroland and 2.4% in the United States. Meanwhile, Japan’s monetary base shows slowing growth of -2.8% y/y in April after zero percent in 1Q08 and +0.6% in 4Q07.

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