Japan Industrial Output February 2008, Updated

Japan's manufacturers cut production for the second consecutive month in February, and output fell month on month by 1.2 percent from January, when it also dropped by 2.2 percent, the Trade Ministry said today in Tokyo.



The seasonally adjusted index is now, as can be seen in the chart, at its lowest level since last July when Japan was suffering from earthquake issues. This means that Japanese output, which had been holding out - thanks to continuing strong exports - rather better than might have expected is showing clear signs of weakening.

Companies surveyed said they expected production to rise by 2 percent in March before falling back again by 1 percent in April.

The Bank of Japan's quarterly Tankan survey of business confidence, is due out tomorrow, and is widely expected to show that sentiment among the country's largest manufacturers fell in March to its lowest level in at least four years.


The growing risk of a slowdown/recession has got investors betting that the Bank of Japan will reverse its policy and cut interest rates some time this year. Traders see a 59 percent chance the central bank will lower the key rate from 0.5 percent by December, according to estimates from JPMorgan Chase.

In separate data from the Ministry of Health Labour and Welfare we learn - via the monthly labour survey, that average total monthly wages (including bonuses and overtime) were up 1.3 percent in February, following a 1 percent rise in January. This follows many months of either very lacklustre or negative wages growth, so not all the indicators are negative by any means at this point but we will have to wait to see just how sustainable this is, and what impact it will have on domestic consumption.

On the employment front it is difficult to get a clear picture, since the labour office introduced a new time series in January, and not all the data we have are completely compatible, but the general picture seems to be that regular full time employment has firmed somewhat, while the rate of increase in part time work has slowed, and the numbers of temporary workers and workers on "non regular" contracts seems to be declining.

If we look at the chart for total hours worked we can see that it is much more erratic than the above chart which shows the steady increase in regular full time workers, this is presumeably due to overtime factors, but it will also be a reflection of the fluctuating situation with temporary workers, who, along with part time workers, have made up a growing share of the Japanese labour force in recent years.

The last chart I am presenting needs to be treated with a certain degree of caution, since it is not based on one continuous time series, and I have constructed it myself, so the break and drop after December may well not be as sharp as it appears, but the general trend is clear enough I think, and it is as theory would lead us to expect, ie that temporary workers are the first to go as the economy slows.

Update April 17

Japan's industrial production rose rather than falling in February, according to revised data from the Trade Ministry today, reversing an earlier estimate that showed output had declined. Production increased 1.6 percent from a month earlier, compared with the previously reported 1.2 percent drop, after the government changed its measuring criteria. January output fell 0.5 percent, less than the 2.2 percent initially stated.




The revision now means that production climbed to its highest point ever in February, adding to evidence that the world's second-largest economy is still resisting the slowdown. Despite our feeling here on JEW that Japan's longest postwar expansion was faltering last autumn - and possibly even heading for recession, with exports being sustained by rapid growth in some key Asian emerging economies, the Japanese economy is still hanging on in there, for just how long is what now remains to be seen.

Today's revisions were mainly the result of two adjustments to the industrial production index: the base year was changed from 2000 to 2005, and the weighting of items was adjusted to reflect current production patterns. The Trade Ministry adjusts the index every five years.

"As long as Japan's production remains flat it's tougher to call for a dual recession," Takehiro Sato, Morgan Stanley's chief Japan economist, who had been calling for a dual U.S.-Japan recession said. "We have to retreat from that. Having said that, we still have to be cautious about the economy going forward."

Japan Inflation and Unemployment February 2008

Japan's consumer prices rose again in February, according to the general index, while the unemployment rate increased for the first time in five months, reinforcing concerns that the economy maybe heading into a recession.

Core prices, which exclude fruit, fish and vegetables, climbed 1 percent in February from a year earlier, the statistics bureau said today in Tokyo. Core prices started rising in October after declining for eight months. They have either hovered near zero or or been falling since March 1998, when an increase in sales tax pushed gains to 1.8 percent, and the country into recession. According to the "core-core" index - excluding energy as well as food - Japan's consumer prices fell 0.1 percent in February. On this measure Japan is still stuck in deflation, with prices having failed to rise in over nine years.




The jobless rate climbed to 3.9 percent, the highest since last October, and job vacancies fell to a two-year low. The ratio of jobs available to each applicant slid to 0.97, the lowest since September 2005.



As much as rising unemployment, Japan's deteriorating labour market conditions are finding reflection in a steady trickly of people being discouraged and leaving the labour force, which has fallen steadily in recent months:



The number of Japanese who are employed has also been falling, giving us another measure of the way the economy is decelerating:



This combination of higher unemployment and faster inflation will undoubtedly complicate life a little over at the Bank of Japan, but there can be little doubt that the next move in interest rates will be down, and it may not be long in coming.


Household spending was effectively stationary on a year on year basis last last month, according to data from the Japanese statistics bureau. The average monthly consumption expenditures per household for households of two or more persons was 275,827 yen in February, up 1.1% in nominal terms and unchanged in real terms from February 2007.

If we look at worker households, The average monthly income per household stood at 476,282 yen, up 1.0% in nominal terms but down 0.1% in real terms from the previous year. Consumption expenditures was 298,539 yen, up 2.5% in nominal terms and up 1.4% in real terms over February 2007.

Japan Exports February 2008

Japan's export growth resumed its upward march in February as demand from emerging markets, and especially in Asia, continued to surge strongly. Exports, which accounted for over half of the Japanese economy's growth last quarter, climbed 8.7 percent from a year earlier after increasing 7.6 percent in January, according to the latest data from the Finance Ministry in Tokyo today.



If we look at the above chart then the impact of the sudden shock to the whole system which occured in August is evident in September, but beyond that is we look at the slope of the (red) exports line, we will see that it has been steadily drifting down since last May/June, despite the fact that it is holding up well. What this should tell us is that the Japanese economy - which is at the end of the day export dependent - is steadily losing momentum.

Along with the overall growth in exports, what is perhaps even more interesting is the overall distribution of those exports. Export's to Asia as a whole were up at a 13.9 percent annual rate in February, from an 8.l percent one in January. Shipments to China rose 14.9 percent, and sales to Europe gained 7.2 percent. Exports to the U.S., on the other hand, were down 6 percent from a year earlier, a sixth monthly decline, reflecting the declining general importance of the US economy as a global customer.




But it is the recent performance of individual countries as customers that is most striking, like, for example, Australia (up 26% y-o-y), Indonesia (33%, the base is still lowish, but the potential seems huge), Vietnam (88.7%), India (40.1%, ditto Indonesia), Latin America - Brazil (38.5%) and Chile (37%), - Russia (41.4%), CEE (36.2%). In general one has the impression that, while Japan's exports will undoubtedly be affected at some point but events elsewhere, it's export growth base is much better distributed than that of the other export oriented powerhouse - Germany - which is far to dependent on Russia and Eastern Europe, in my view, and hence on any unfortunate corrections which may occur there. Anyone interested in making a comparison between Germany and Japan in this regard could do worse than taking a look at my recent post on the German export phenomenon.

Ms Watanabe Not Easily Deterred

As Bloomberg puts it on their news site sometimes markets roar and sometimes they whisper. In the last couple of weeks they have certainly roared as the crisis in financial markets have haunted the steps of Wall Street bankers and the Fed. At this point in time we are wearily waiting in Europe to see whether (or more precisely when and where) the fangs of the credit crunch will take hold. In the context of whispering markets we got a small but rather significant snippet from Bloomberg last week when we learned that the accumulated value of Japanese household assets fell for the first time since 2002. As an exception I am quoting the entire piece below.

Japanese households' assets fell for the first time in five years as the nation's benchmark stock index fell, eroding consumer wealth and reducing the prospects for their spending to support economic growth. The value of assets held by households as of Dec. 31 slid 0.6 percent from a year earlier to 1,545 trillion yen ($15.5 trillion), the Bank of Japan said today in its quarterly flow of funds report in Tokyo. Japan's Topix index has lost almost a fifth of its value this year, crimping household assets already depleted by higher prices and falling wages. Consumer confidence is at a five-year low, making it unlikely that their spending will support the world's second-largest economy as overseas growth slows. ``The drop in household assets is another reason why consumers don't want to increase spending,'' said Takeshi Minami, chief economist at Norinchukin Research Institute in Tokyo. ``Japan's economy will remain fragile as stocks continue to decline and downside risks from the U.S. economy increase.''

The Topix lost 12 percent of its value last year and has shaved another 18 percent since January. The Nikkei 225 Stock Average has fallen 19 percent this year.

Holdings in shares dropped 16.8 percent in 2007 from a year earlier, according to Masanobu Ishii, director of financial and economic statistics at the Bank of Japan. The value of holdings in government bonds, insurance and pension funds rose to a record, which confirms a trend that households are seeking higher returns than those available from cash deposits, Ishii said. At 0.5 percent, Japan has the lowest benchmark interest rate in the industrialized world.

The point conveyed by this small Bloomberg piece is not at all insignificant even if it is still too early to derive a general trend. We consequently need to think about what potentially drives the dynamics of Japanese savings and subsequent attempt to make all those pennys work to earn yield. As such and keeping the point above in mind the reason why Japanese savers are now sitting on a dwindling asset base is of course partly to be found in the context of Japanese asset markets themselves. With an interest rate of 0.5% and a main stock index stubbornly bend hell on declining Japan does not exactly spell an attractive investment opportunity even if we are still talking about the world's second biggest economy with a corresponding stock market capitalisation to boot. Foreign investors seem to be voting with their feet even if of course the unwinding of carry trade means that the Yen, much to the chagrin of Japanese companies and policy makers, is rising.

Foreign investors last week sold the most Japanese shares since the Black Monday market crash in October 1987 after the yen rose to a 12-year high, clouding the profit outlook for exporters. Outflows from Japanese stocks by foreign investors were 922.7 billion yen ($9.26 billion) on a net basis in the week ended March 14, according to figures released today by the Tokyo Stock Exchange. That was the most since the period ended on Oct. 23, 1987. Japanese stocks have attracted net buying on a weekly basis by overseas investors once this year.

One week does not of course make a trend but if we step up in the helicopter and look at the big picture I do think that the main tendency supports what was rather dramatically demonstrated last week. As Morgan Stanley's main man on Japan Robert Alan Feldman put it a couple of months back; 'investors just don't find Japan that exciting anymore!' So, what am I really getting at here? Well, in what follows I try to sketch a rudimentary framework for my argument as well as I provide some further recent evidence. Basically (and this is only on the consumer side), we are moving into life cycle theory and how it connects with the well known inclination for investors to invest dis-proportionally (from an optimization point of view) in their home country assets (i.e. the home bias). In terms of life cycle theory I would argue that we are stuck in that damn 'we don't know' situation since we cannot look into the future and currently, with Japan, we are standing on the edge of the demographic frontier in an ageing context. In short, it is very difficult to gauge the future saving and consumption pattern in Japan since, and this is of course merely my personal guess, the life cycle is endogenous to the demographic transition at the same time as institutional and cultura factors exert influence. What we do know however with a reasonable degree of certainty is that as the ratio of retired to working people increase and as (presumably) the labour market shifts onto lower value added work for the ageing cohorts (i.e. all those part time jobs we are seeing coming online in Japan) we can expect an overall process of dissaving on the aggregate scale. But (and this is a big but), the traditional way to narrate this process is not very satisfactory in the sense that it tends to take place in 2050 or something and the prediction of a great asset price meltdown. Me and my colleagues have always found this venue of debate rather tedious since who the hell knows what happens in 2050 and in any case it is what happens in the meantime which will make all the difference. In this way, I feel that a couple of the traditional dissaving assumptions need to be considerably loosened.

• People do not dissave to 0 since by very nature of the human life cycle they don't know when they pass away. Add to this that there might be some altruism and bequest involved. Also, remember that people in the dissaving part of their life cycle do not take on debt which is a very important point to take aboard when we talk about a country's 'capacity' to 'sustain' a housing boom etc. Obviously, this does not negate the dissaving hypothesis but it does tend to differentiate it not least because evidence suggests that people do not dissave with pace that theory predicts

• Rising life expectancy across the board will induce people to save longer and/or dissave more slowly as well as we can perhaps expect people to try to live off of their assets (i.e. dividend income, interest etc) in stead of spending them.

• Forced savings(?) Perhaps this is where people tend to get lost since if you don't think about the inter generational and thus 'sustainability' perspective from society's point of view you don't get it. As such, we need to think about the fact that ageing costs and if you are a young worker coming out of a Japanese university you will, quite literally, need to start saving from day one. I mean, the public pay-as-you system simply won't be able to cover it and to the extent that policy makers try to keep it alive they will levy taxes on the population in order to pay for it. This would be the 'forced' savings part. In short; the working cohorts are fewer in number, face a less dynamic economy, and need to support an ever growing burden. This means quite naturally that they will have less money over their life cycle to pump up consumption than if the population pyramid had been more stable. This hypothesis would one of the main arguments for why ageing economies will tend to exhibit congenially weak domestic demand.

Now, I don't know whether this is an adequate explanation of the process. Empirical testing and a sound strategy of scientific falsification will see us through this one. But when I look at the evidence I feel somewhat vindicated. One key part of the picture here is consequently the decline in home bias amongst Japanese investors which cuts a straight line from those savvy carry trading housewives to buyers of Samurai bonds both on which I have reported several times. Recently, we got further indication that this is a process set to linger.

Japanese retail investors are still showing an appetite for overseas assets despite the dollar's tumble to near 13-year lows -- more weary of low returns at home than frightened of foreign exchange risk. Driven away by razor-thin yields on domestic bank deposits, Japanese retail money has piled into overseas investment in recent years, such as foreign bonds, mutual funds that invest abroad and leveraged currency trading. Japanese brokerages said that while there had been some withdrawals in investment trusts targeting Japanese equities, overseas securities, especially non-U.S. dollar securities, were faring well. "Japanese retail investors are keen on investment trusts targeting foreign bonds as they believe that the dollar is near a bottom against the yen," said Koichi Kitamura, general manager of Daiwa Securities' investment trust department. "Although they are somewhat reluctant to spend now, we expect to see an increased inflow of retail money to investment funds focusing on high-yielding foreign bonds," he added.

"There has been no panic. Investors are still calmly allocating toward foreign bond funds and newly issued foreign bonds," said a spokesman for Nomura Securities, who declined to be identified. Earlier this month, Nomura Securities sold A$590 million in Australian dollar-denominated "uridashi" bonds issued by Toyota Motor Credit Corp, a unit of Japan's Toyota Motor Corp. The two-year bonds came with a coupon rate of 6.82 percent. Nomura also sold A$650 million in two-year Australian dollar-denominated uridashis issued by International Finance Corp [IFC.UL], the private-sector lending arm of the World Bank, with a coupon rate of 6.71 percent.

The general point about how Japanese retail investors living in a low yield environment will attempt to ship their money abroad in order to earn income is important to take aboard. In this context it is crucial that we are able to distinguish between the microeconomic and macroeconomic perspective. We consequently need to think about the fact that while saving in a microeconomic sense is governed by the strict rules of life cycle theory it is completely different on a macroeconomic scale. A society cannot dissave or at least it will fight long and hard to avoid this since this would ultimately erode its level of existence. This could be why ageing economies will try to live off of their exports of goods and capital in order to survive; remember that an external surplus is a proxy for savings and in this present context not only the trade balance but also the income balance is worth watching. Of course, dissaving will happen but paradoxically and even if household saving rates will be declining we could see a process by which the capital surplus is kept high. As an important aside here note the concept I often refer to as 'capacity.' Basically, I start out differently than most growth theorists by noting that the ultimate measure of capacity is 'human capital' both qualitatively (i.e. education, productivity etc) and quantitatively (ratio of old people to young (working) people). The amount of physcial capital you can absorb (i.e. growth) depends on your human capital and if there is a mismatch we run into trouble. Currently I would say that this is materialising itself on two fronts.

1) The old and ageing industrialised economies of which many are now steadily becoming dependent on exports in order maintain a respectable and much needed growth rate if they are to pay for their welfare systems. They simply have too much capital (physical and non-physical) for their domestic economies to absorb.

2) Emerging economies who have moved through the demographic transition way too fast relative to the growth expectations levied upon them. Eastern Europe/Russia and perhaps now China would be examples here.

On both 1 and 2 the global economy is faced with notable challenges. In terms of number 1) we need to remember that Japan and Germany won't be the only ageing economies to come on stream. In fact, if Edward and I are right the whole global economic system is in for a significant stress test since the principles on which the current system works cannot be sustained in the long run. This would then be where number 2 comes in. We need those importers but we also want to make sure that we don't burn them off like fire crackers over the course of a decade as well as we could say that we need to avoid those US style bubble bursting recessions even if this has nothing to do with demographics it a direct sense. Especially, China has now become a pressing issue at this point.

And why all this fuss then? Well, I think that we have mounting evidence for the 'demography matters' thesis yet no one in the high circles has come close to addressing it yet. Quite simply, the demographic transition is not this automated process with a fixed beginning and an end and it is not one which exhibits the same features across countries. I mean, this is where it all shores up. How can we e.g. expect China to simply become the new 'US' given the underlying toll of the one-child policy? Ironically (or tragically?) the turning point by which China is forced into this new role may come now at the precise point in time where the effects of its demographic profile are materialising.

The BOJ Debacle, better than Shakespeare

As most of our readers without a doubt have discovered most of the action is taking place in the US at the moment as the credit turmoil has moved from sporadid skirmishes to a full blown bataille. However, the US is not the only place where the sh't is waiting to hit the fan although of course you might say that the fan is already blowing at full force in the US. The issues facing Japan at this point in time are just as much of political nature as they are economic and as always these two issues tend to be intertwined in various ways. On the economic outlook I will be brief in this particular note and hold off my guns until we get a slew of new data at the end of March (see my latest long piece for a reminder). A couple of points would be timely however. Personally, I was surprised by the comparatively small downward revision of the Q4 GDP figures which showed that Gross domestic product expanded an annualized rate of 3.5 percent in the three months ended Dec. 31. That does not indicate that Japan has entered a recession as we have noted here. However, all forward looking gauges firmly point towards a significant slowdown in activity at this point in time. Especially, corporate capex now seems to be entering a new stage where the build up of inventories to reflect an optimistic outlook amongst companies give way to a more modest approach. This will have a very distinct impact on Japan's economic performance moving forward. Moreover, pitch black storm clouds are gathering over Tokyo on the back of the relentless rise of the JPY against all major currencies across the board. Today, the government released a statement in which it carefully noted how the economic recovery was 'pausing' as if it was merely a question of taking a breather; not a very constitutional recovery I would say. The only bright spot seems to come from consumers who are still keeping up appearances even as we enter the slowdown. Recent data from supermarket sales showed a slight increase in spending for February but given the fact that consumer confidence slumped to its lowest level in five years I am not sure how to read this. Finally and epitomizing the perpetual existence of contrarian indicators in the context of Japan the recent release of the 'All Industry Activity' gauge showed a flat reading of 0.

In conclusion, the economic outlook in Japan is steadily and surely deteriorating and the only bright spot remains the Japanese consumer but given the abyss between real data and forward looking sentiment data I am not sure we can expect it to continue. In such times you need authorities and institutions to safely steer the economy through the troubled moment. However, and on top of the persistent lack of economic momentum Japan also lack the political edifice to deal with the most basic functions. The recent debacle surrounding the appointment of a new governor at the BOJ is a dire case in point. Observers have been pointing towards the probability of a stalemate for some time. I first picked up on this when Morgan Stanley's Takehiro Sato mentioned it as an odd point a couple of months back as well as Ken Worsley from the Japan Economy and News Blog also has mused about it. Personally, I have incorporated it in my official outlook for Japan since the end of 2007. Yet, I don't think that even the maestro himself Shakespeare could have conjured a script more riven with intrigue and hidden agendas as the one we are witnessing at the moment. At the heart of the matter lies a split in Japan's bi-cameral system where the leading party (the LDP led by Fukuda) in the lower house has seen its nominated candidates for the BOJ seat been handed the thumbs down by the opposition party (the DPJ) presiding over the upper house. So far, it has thus been a spectacle indeed. For a long while we all believed that Toshiro Muto, LDP's first nominee, would take over Fukui's slot but as the new governor. However, that was not the case and as Fukuda presented his second nominee Koji Tanami it was only a question of time before he also was rejected. The main issue which is being directed to us through the media is one of just how much influence the finance ministry should have in the new BOJ. Consequently, the two first nominees presented by Fukuda (Muto and Tanami) were both rejected on the grounds that their ties to the finance ministry were too strong. This then cuts right across a whole gamut of issues concerning Japan's monetary policy and the problem Japan faces with deflation as well as a public debt of 160% of GDP. Normalising interest rates would thus without a doubt bring more bite and leverage into monetary policy. This seems to be the implicit impetus for the DPJ's rejection of candidates too closely tied to the finance ministry who, on the other hand, would be more inclined to look downwards back into ZIRP. As we know Japan is far from normal and given the level of debt and current inflation pressures (i.e. not driven by economic activity) it is difficult to see how the BOJ would be able to normalise interest rates in any given sense of the word but it does not make the dilemma anymore pressing.

As the 20th of March moves inevitably closer and as the Fukui steps down it seems that the BOJ is forced to opt for a temporary anchor man in the hot seat. This is hardly the best time for such uncertainty. Important decisions need to be made not least in connection with the JPY's flight to the skies as well the economic outlook which now looks decidedly worse. As I have pointed out before the main risk forming on the back of a situation of limbo at the BOJ is that the MOF moves closer to the BOJ decision making process. The DPJ will fight long and hard of course and we may even see a general election on the back of this as well as Fukuda may be forced to step down as it becomes apparent that he cannot, with credibility, act as a mediator. The main risk is thus that the probability for intervention to keep the JPY from flying off as well as a reduction in interest rates must now be considered to be higher than if the transition had been smoother.

Japan Consumer Confidence February 2008

Japan's consumer confidence dropped to its lowest level in five years in February. The Index fell to 36.1 in February, down from 37.5 in January, the Cabinet Office said today in Tokyo this morning. Confidence among consumers hasn't been this low since March 2003, when the unemployment rate was close to a postwar high.

Japan Q4 2007 GDP Revisions

Following today's release of revised figures for Japan GDP in Q4 2007 we can now see that Japan's economy grew better than anticpated (incuding by those on this blog) in the fourth quarter as exports held up much better than expected. Gross domestic product expanded an annualized rate of 3.5 percent in the three months ended Dec. 31, which was down only slightly on last month's preliminary estimate of 3.7 percent. Analysts had been generally looking for a rather bigger downward revision following release of a large downward revision in capital spending last week.

The economy grew 0.9 percent quarter on quarter, unchanged from the government's initial survey on Feb. 14, and at a year on-year rate of 2%.



What we should be able to note from the above chart is that while the year on year rate had now dropped back somewhat from earlier peaks, growth is still holding up reasonably well. The reasons for this are not hard to identify, since net exports, or the difference between exports and imports, added 0.5 percentage point to growth, an upward revision from the 0.4 percentage point contribution first reported.



What we can see in the above chart - which compares movements in quarterly GDP growth with net export contributions to growth - is that co-movement between these two is quite strongly correlated, and that the nose dive in GDP in Q2 2007 was closely associated with a weakening in the export contribution. All of this is already rather old hat, but what is perhaps rather surprising to note in the above chart is that Japanese GDP and export growth has actually IMPROVED in the period following the sub prime outbreak in August (and despite a significant construction slump in Japan) when compared with performance just before the problem arrived. This would seem to suggest, to say the very least, that Japanese growth is now significantly "decoupled" from the US - in the sense that exports to that market don't carry as much weight - but is most definitely NOT "decoupled" in the sense of being driven by autonomous domestic demand lead growth. Not only this, but Japanese exports are performing relatively well on the back of rising demand in the rapidly developing emerging economies. This phenomenon is being virtually replicated in Germany, that other ageing-society economy which is driven by export demand. So we need to follow carefully what happens next here, to see what can be learnt.

Investment in factories and equipment grew 2 percent from the previous quarter, less than the initial estimate for a 2.9 percent gain in line with last weeks Finance Ministry report.

Consumer spending is another area that has been holding up rather better than expected, and this despite plumetting consumer confidence indexes, and rose 0.2 percent on the quarter,and 1.2% year on year, unchanged from the preliminary GDP survey.




Household consumption isn't growing at rates that should make us sit up and pay strong attention, and it certainly isn't going to power a consumer driven expansion, but it is holding up acceptably well under the circumstances. Again, this is another data point to follow closely in the coming months to see what it tells us about how things in Japan are likely to evolve.

Deciphering the USD/JPY - A Credit Turmoil Story?

In a time where the USD continues its roller coaster ride and where analysts and other market sages are effectively predicting the USD/JPY to break 100 anytime soon I think it might be a good idea to have a more reflective look at what is happening to the JPY (the USD/JPY in this case). Of course, exchange rates, like the lord, move in mysterious ways and most empirical studies have grappled with how to say anyting useful about the trends and movements in exchanges at the same time as statistical tests have shown how exchange rates are best modelled by a Random Walk process essentially meaning that today's spot rate is the best predictor of tomorrow's ditto. In that sense I have to disappoint the punters who are expecting a model to predict short term moves in the USD/JPY. I haven't found one I am afraid. You could also ask yourself that if I really was sitting on a model to predict daily moves in the USD/JPY ... would I be posting the result here? My objective on the other hand is to try to formalize one of those market pointers out there which everybody seems to be tuned into but which has not been operationalized.

One of the most persistent features of the FX market since the beginning of the credit turmoil (I am putting the date at 1st Aug 2007) and arguably further back has been the steady unwinding of carry trade and thus by derivative the appreciation of the JPY and the CHF. These two currencies have been favorite funding currencies for the carry trade which exploits uncovered interest rate parity by borrowing cheap (low interest rates) and investing in high yielding currencies. In this immediate light the recent assertion of the JPY against the USD is not so strange. Since August 2006 the Fed has aggressively lowered rates while the BOJ has stood pat and as such the carry trade in USD/JPY is not at all the most attractive option out there. More importantly the JPY has assumed, and not only against the USD, a veritable canary in the coalmine mantle to become the main market gauge for risk sentiment. Conversely and as a parallel process the fundamentals of the Japanese economy have not materialised to provide what we could call traditional support for currency appreciation. Quite the contrary actually and presently most analysts are expecting the BOJ to come in with a cut in the main rate in Q2 2008. Paradoxically and under the current market conditions this seems likely to further strengthen the JPY. The gradual unwinding of carry trades are no doubt important here but the low-yielders' (i.e. CHF and JPY) role as risk measurement gauges is still quite interesting I think. It is this role that I am going to try to formalize in this post the context of the USD/JPY. For a very concrete image of what I am talking about the graph below is interesting. It plots the evolution of the JPY against four major currencies (although not the Kiwi which in this case would have been interesting) since the credit turmoil really began.

The first thing we notice is the close correlation between these currency movements which further goes to highlight the main argument. Of course, there seems to be a break sometime in the end of January where the GBP/JPY and the USD/JPY continues to stay weak against the JPY whereas the EUR and AUD resumes their upward tendency, a tendency which has been reversed the last couple of weeks. Yet, this is well in accordance with the interest rate decisions observed in the Euro area and Australia have been decidedly more hawkish than those at the Fed and the BOE. However, behind all this lies still this point about how the Yen has become a way to gauge the immediate and essentially real time risk aversion in the market place.

Moving on to the concrete aim with this note my method will be pretty simple and as the idea evolved in my head I was quite certain that the end result would not provide anything particularly interesting or 'significant' as we say in regression lingo. Yet this was not the case. In order to develop a Mickey Mouse model to show this 'risk gauge' role of the JPY I pulled the daily spot rates of the USD/JPY at market closing as well as the daily values of the SP500 and Nikkei also at close. The sample period runs from the 1st of August to the 6th of March (get data set here). Reformulating the times series from level form to daily changes in % to correct for non-stationarity I regressed the daily change in USD/JPY on the daily change in SP500 and the Nikkei where the latter are used as proxies for risk sentiment in the market. The signs of the coefficient are expected to be positive. the USD/JPY is quoted indirectly and thus a 'rise' the currency pair value denotes a depreciation of the JPY. As such, the 'theory' or argument of JPY as a risk gauge would prescribe the change in the currency pair to be positively related with the change in the two stock indices. To set the scene I provide graphs of correlation analyses of the variables in question which give a good initial overview of the argument.

As we can clearly see from the graphs above the correlation in the period in question is quite strong and much strong than I would have expected. For the USD/JPY and the SP500 the figure is 0.58 and for the USD/JPY and Nikkei we have 0.56. The last graph also deserves a little bit of mention even though it is of no fundamental value to the model estimated below expect that it indicates a moderate degree of multicollinearity. This is not entirely without importance since it underpins one of the peculiar and unlikable feature of international financial markets and investment allocation. As such, the benefit of international diversification traditionally arise from allocating funds across international markets to exploit the lower correlation (co-variance) amongst national and international stocks compared to investing in the national market portfolio. However, the rub is that during times of volatility and market uncertainty where international diversification would be most valuable covariance amongst stock markets tend to shoot up negating the effect to some extent. I don't have a rolling correlation analysis for the Nikkei and the SP500 but I would guess that it was less than the estimated 0.58 for the sample period in question (although please prove me wrong here if you have the data at hand). Having provided a rough description of the methodology I present the estimated model below.

F'(USD/JPY) = -0.05 + 0.15F'(Nikkei) + 0.2F'(SP500) + ut
(t: -1.21) (t: 4.61) (t: 5.29)

R-Square: 0.4075, F: 57.8

Where all variables are in daily changes in %. I want to stress that this model cannot be used to predict changes in the daily spot rate of the USD/JPY since there are no 'lead' or 'lagged' variables. As can be readily observed for those of my readers with a bit of knowledge of econometrics all variables save the intercept are significant at the 5% level. The R-square of .4075 (i.e. about 41% of the changes in the USD/JPY is explained by the changes in the SP500 and Nikkei) is fairly high in my opinion and much above what I expected before I ran the regression. The interpretation of the model is also straightforward if a bit pointless in the present context. Consequently, a 1% daily increase in the Nikkei and the SP500 would translate into a 0.3% increase in the USD/JPY (i.e. depreciation of the JPY); all at close values. I think that this model conveys a quite strong message about one of the key current tendencies in FX markets today. One of the main questions however that emerges on back of this result would be the extent to which this tendency will linger?

Two issues are important here. The first is simply the technical point about the total volume of JPY funded carry trades out there vs the USD (and other currencies) and the extent to which these positions are now being unwound. However, what is more important I think is the medium to long term perspective and consequently what we believe the JPY's role is in the current global correction we are witnessing. As I have voiced extensively here at this space I don't see the main process as one in which global liquidity moves to favor the Euro and the JPY to the extent we are currently seeing. In this light the following point made today by Morgan Stanley's Stephen Jen is very important to tune into ...

For the JPY to stay strong, the underlying assets in Japan need to be bought and held by foreign investors. However, there are significant cyclical and structural concerns about Japan that make us believe that USD/JPY cannot stay below 100 for long, though risk-motivated corrections could rather easily push USD/JPY below 100. We don’t believe that 100 is special, except for psychological reasons.

This is exactly the point and, at least in part, we need to look at the long term ability for the global economies to create yield and positive NPV projects in order to understand where capital will ultimately end up as well as of course size and absolute market capitalisation also matter. Further down in today's MS bumper GEF issue Jen puts the forecast at 97 for USD/JPY in Q2 suggesting that the show is not over yet and not by a long shot. As I pointed out last week I agree although I am not going to venture an actual number. In the context of more tedious issues the model above and thus the approach could be improved by including a variable from the fixed income market but I did not have time to pull the relevant data mainly because I was not sure what to put in there. Moreover there is, as always, the question of causality. I don't like the traditional econometric tests (e.g. Granger) for causality since I think they do not really add much to the table in terms what exactly constitutes 'causality.' After all econometrics is just a tool to formalize and make rigorous what we are already seeing and or expecting as well as of course the pitiful endeavor of forecasting.

In Summary

So, what have I actually showed in this post? In terms of bringing new findings to the financial market place and economic punditry I have not contributed a whole lot. It is by now well known and incorporated in market discourses that the JPY and the CHF commands the role as global risk gauges at least to some extent. What is not known however is exactly how this can be operationalized. This is what I have tried to show in this post. Obviously, the nature of the study and the focus on daily spot rate changes leads to a focus on short term movements. What is equally important is the longer term trend and whether this role of the JPY will remain, get stronger or weaker. I am not sure to say the least. I believe that the curves will intersect at some point and that fundamentals once again will drive the JPY. However, there is also a global process of re-coupling going on out there (nope, it is not decoupling I am afraid) and in this context it is not yet clear what role the JPY will assume. Japan clearly exports much more to China and the rest of Asia than it did 10 years ago and this will lead to a process by which the US slowdown won't hurt as much as it would have. But, and this is the main point, Japan is still dependent on exports to fuel growth. In this light, the ever readable Emmanuel from the IPEZone has an interesting post about the probability of intervention as the JPY drifts towards 100 a buck. But now as I am converging on the point where I started this note I am also taking on a new topic and I will leave that for a later point.

Japan Economy Watchers Index February 2008

Japanese merchant sentiment improved slightly in February but was still near a six-year low as soaring oil and food prices continued to sap consumers' spending power. The Economy Watchers index, a survey of barbers, taxi drivers and others who deal with consumers, rose to 33.6 from 31.8 in January, the Cabinet Office said today in Tokyo.

Japan Machinery Orders January 2008

Japanese machinery orders rose at the fastest pace in seven years in January, a sign that demand from emerging markets may offer some kind of support for Japan's export driven economy during difficult times. Equipment orders jumped 19.6 percent from December, when they dropped 3.2 percent, the Cabinet Office said today in Tokyo.




Machinery orders,which give some indication of capital spending over the next three to six months, had previously declined for two consecutive months until January's rebound. Manufacturing-equipment orders climbed 13.8 percent from a month earlier, the Cabinet Office said. Non- manufacturing orders surged 21.9 percent.


The trend toward mailand Japan factory building continues with news today that central Motor Co., a Toyota subsidiary, plans to build a 49 billion yen ($480 million) factory in Sendai, northern Japan. This will be Toyota's first new assembly plant built in Japan since 1993, and will employ 1,200 people. Honda also intends to spend 50 billion yen on a new factory to make low-cost cars for emerging markets, according to the Nikkei newspaper yesterday.

Is Japan Resisting?

(Cross-post from Alpha.Sources)

There is only one thing which you can be certain of these days. Trying to keep up with the pace of record breaking and nail biting pieces of data pouring in at the moment carries with it a distinct risk of suffering a heart attack. You shouldn't worry too much about the author of this space though but I am merely pointing towards the fact that 'keeping up' these days is akin to the work of a certain Sisyphus. This time I will be moving in with an addition to my ongoing coverage of Japan; for the most recent posts see here and here. Three, more or less, separate issues will be covered. We will have a look at the traditional charts of domestic consumption and prices and we will also take a look at the situation of the BOJ. What are we likely to see on the interest rate front and equally important how will the economic situation interact with the switch of guards at the BOJ? Lastly, we will look at the Yen and more specifically the USD/JPY. The 105 mark has been well and truly breached and now we are holding our breath for the potential of 100 which will be the real test for intervention. Remember that most of the charts below only go as far as January which of course is somewhat backward looking. I will be adding newer information where applicable.

The inflation and subsequent outlook does not seem to have changed much in Japan. Food and energy still keep the Japanese core inflation in the positive at an annual increase just shy of 1%. The core-of-core index meanwhile remained in negative trajectory. The lack of pass through to prices ex energy and food is a bit surprising at this point but clearly underpins the point that Japan currently is subjected to cost-push inflation rather than demand-pull inflation. I do expect however that prices at some point will move into positive territory even in connection to the core-of-core index. The main point tas always is the extent to which the price increases don't follow the economic dynamics akin to a recovery but rather the resemblance of a supply shock. Essentially, this is all a question of where in the value chain the inflation will show up. So far, companies outside the food sector do not seem to have had the incentive to pass on higher input prices to the extent that these are pushing on margins. In general such a fence won't hold forever of course. Traditional economic dynamics prescribe that this ultimately will end up at the consumers' door either in the form of increasing prices (reduced purchasing power) or cutting of activity which would translate into rising unemployment or an even stronger shift towards part time employment in Japan's case. In this specific context I think it would serve us well to look at some graphs of input prices in the form of import prices and the corporate goods index.

The first graph may of course be riddled with exchange rate effects and I realise that I am on shaky grounds given the fact that I am not completely on top of the methodology. Yet, we should still be able to extract some interesting information from this, not least the confirmation of the well known point that energy seem to be main driver of rising import prices and thus to some extent input prices. This is important in Japan's case since she is a major food and energy importer. The corporate goods index is more interesting I think. If we look at the aggregate index it is virtually flat (with a clear upward bias) which suggests that price pressures in Japan are not as widespread as many claim. Once again though we see that energy prices (proxied by petroleum and coal) have shot up significantly in the past 5-6 months confirming the initial message from core prices. Turning to consumer spending we got some rather interesting news lately which points to the fact that consumer spending cannot be deployed as a particularly strong indicator of the Japanese business cycle even if it may be interesting in and of itself. We consequently observed that Japanese consumers did not merely end 2007 on a strong note but started 2008 even stronger with household spending climbing an annual 3.6%. Many explanations have been offered as to why household spending can continue to climb even as general economic indicators and confidence indices are moving in opposite territory. For the concrete January reading anecdotal evidence of consumers indulging on new car models seem to coincide well with spending on 'automobiles' climbing a pretty clip. However, if we deviate a bit from the details Ken Worsley makes the following interesting point ...

Perhaps we’re finding out more as to why Japanese households are saving less and less money…

This thus takes us into the whole discussion of dissaving and how Japan as an old society will tend to dissave (although the precise dynamics here should not be considered linear). The merits of discussing this on the basis of one month's reading are non-existing but it is still an interesting point to have knocking around even if I personally think that it might not be a fitting description of the process we are seeing. Generally, the long term index I am also fielding should be able to aid us since it demonstrates how real consumption is clearly above trend at this point and given the underlying dynamics I don't expect this to be sustainable. Another trend to watch in this respect is the extent to which the recent pick-up in wage growth will be sustained. Moreover, and in order to provide you with a more precise indicator of where the Japanese train is heading the most recent reading on industrial production indicates that things are definitely slowing down in Japan. The index was down on a m-o-m basis and the corresponding figure for the annual increase, although up, does indeed indicate that the general pace is easing. All this also seems to confirm what Takehiro Sato pointed out a couple of weeks back ...

We are forecasting that Japan will cling on to a modicum of growth in the Oct-Dec 2007 quarter, boosted by external demand, but there is a possibility that, like the US, that quarter will mark the peak and the economy will retreat in Jan-Mar. Future data for industrial production will tell us if this is the case.

Lastly, we also learned a couple of days ago that capital spending was revised down sharply in Q4 confirming my initial hunch at the time that this figure was far outside the realms of reality. In conclusion, the economic indicators are still pointing towards a significant slowdown in Japan. Save the recent pick-up in household spending I have not seen any indications that counters the fundamental point that Japan's much hailed recovery is in for a real test.

This then brings us into policy issues and more specifically whether the BOJ is going to move in with a cut in the already pretty trimmed refi rate of 0.5%. The important point to emphasise is that the decision to take it to 0.25% is likely to be just as much a question of politics than economics, at least in the short term. Consequently, and as I have also been pointing to in my previous notes the coming change of guards at the BOJ tend to cloud the setting in which future decisions are to be made not to speak of the decision itself. Japanese politics are not my speciality by any yardstick but the state of play still seems to be the one I have emphasised. The ruling party (the Liberal Democratic Party - LPD) is trailing in the public's glance after a series of political scandals and the opposition (the Democratic Party of Japan - DPJ) who holds the majority in the upper house may want to exploit this by thwarting the LPD's proposal for a governor and thus, most likely, provoking a general election. As Ken Worsley (see link above) details this has led to a number of those backroom negotiations in order to reach a formal agreement in order to avoid a potential rout on open screens. The main conflict is that the LPD's main candidate for the job, the current Deputy Governor Toshiro Muto, is not exactly to the liking of the DPJ. The question now seems to be the extent to which the political parties will risk leaving the BOJ without leadership come the 20th of March when Fukui's mandate expires. I am moving in behind Ken Worsley here as I doubt this would be the case but the risk to this is that the DPJ is bend hell on provoking an election. If this is the case, anything can happen. In the context of what this political charade will mean for policy decisions it is not easy to call, to say the least. Takehiro Sato from Morgan Stanley fields some extensive musings on the topic as he tries to argue why Morgan Stanley still sees the BOJ moving to 0.25% in H01-2008 at the same time as he hedges himself with a handful of put options. The interesting thing is that Sato largely bases his forecast on the extent to which Muto is selected as governor. According to Sato Muto would be more inclined to move in with a cut than the new contester on the arena Former Deputy Governor Yutaka Yamaguchi. All this of course is pretty much speculation at this point. I maintain my view that Q2 2008 will see a cut to 0.25% and behind Sato's hedges I see this as Morgan Stanley's main call too. I think that economic fundamentals will, after all, be the guiding driving force noting alongside Sato that April's Outlook Report (i.e. under the new governor) will be very important in this context.

The final topic I promised to deal with was the topic of the Yen and of course more specifically the extent to which we will see intervention in the USD/JPY as the pair drifts towards 100. The myopic focus on the USD/JPY is not really fair. It is important to understand what drives the Yen at the moment which alongside the other low-yielder Mr. CHF is driven by risk sentiment and thus the unwinding/'winding' of carry trade. Carry trade as we know it in the good old days is of course over at this point in time. But the Yen and the CHF still seems to be, for the moment at least, correlated with movements in equities and as such the general risk aversion argument. Obviously, as Macro Man neatly notes in his recent take on the markets the USD is now itself moving in to a territory where it is likely to be used as a funding currency for carry trades, especially since the Yen/CHF funded carry trade is pretty much out at this point even to such an extent that some are worrying about a rapid unwind.

With real two year govvy yields of -2.7%, why would anyone in their right mind hold dollars? The carry trade is alive and well (just see where AUD and NZD and BRL are trading!) but this time around, it's funded in dollars and not yen.

MM's mentioning of the negative real yields on two year government bonds is important I think and I do believe that fixed income markets in general need to be watched at this point in time since there is a lot of need for funding out there but not a lot of buyers. This is important in a Japanese context too since they have a government deficit to finance and even though the demand for Japanese instruments perhaps are not in jeopardy in the current environment (i.e. investors prefer low but secure yield to high insecure yield; i.e. the risk aversion punt) I still think that Japan is on the front row in a potential crisis in fixed income since the funding need is so damn large. Meanwhile, the USD/YEN continues to break new lows and the hitherto 105 mark mentioned as a potential limit for the BOJ/MOF has not so far prompted open market intervention. Let us look at the graphical version;

As Macro Man smugly noted a couple of weeks ago in the context of waiting for ECB's decision to lower rates it might be like Waiting for Godot. I am beginning to think that the same may apply to the USD/JPY and the probability of intervention from the BOJ/MOF. As I have persistently arguing on this point the 100 mark is the real test here. I am not certain that 100 will see intervention but for political as well as more 'animal spirity' reasons I do think that it is pretty close call. Such things are of course impossible to call and we could also ask the question of whether the USD/JPY will hit 100 at all? Given the current momentum against the USD I think this is very likely. In this context, it remains to be seen what a cut to 0.25% would actually do. Fundamental analysis would prescribe that the JPY should weaken on the back of such a move but this is not at all clear at this point. In fact, in the current environment I am not sure that investors are ready to sell the JPY to a great extent an thus revive the carry trade à la traditionelle even if only for a moment. A (short) burst in the form of an equity rally or above par news from the US and (paradoxically) the Japanese economy could bring the USD/JPY back up towards the 110 mark. For the immediate future I see the main bias as supportive for further Yen strength.

In Conclusion

A lot of ground was covered in this note. The situation and outlook on prices have not changed much since I last had Japan under the spot light. Inflation remains in positive territory driven by energy and food prices whereas the core-of-core continued to decline -0.1% for January. This mismatch is the one to watch for the immediate future. Companies are clearly passing on prices on food and energy price pass through is also given. However, what remains to be seen is the extent to which cost-push inflation will hit a wider array of prices in Japan; so far this has not been the case. Almost all economic indicators are still pointing towards a rather abrupt slowdown in Japan. Only data from household spending and a much welcome increase in wages seem to defy the general tendency. The recent revision of Q4 capex and the slump in industrial production in January confirm my overall bias for a near recessionary environment. In light of this economic environment I see the BOJ cutting to 0.25% in Q2 although I don't think it will happen tomorrow (Friday the 7th). The political quagmire is a potential risk here. All things point towards Muto being appointed unless the DPJ decides to follow through and veto in which case a battle of wills will ensue. In the event of a stalemate I would expect a freeze of policy moves which could shatter my forecast as well as of course a sudden pick-up in economic activity could do the same. Finally, I took a look at the Yen and more specifically the probability of a USD/JPY intervention at 100. I am not convinced that it would happen but I contend that this is a magic number if ever there was one so this will be a close call. If economic conditions continue to deteriorate I see the probability of intervention increasing as the USD/JPY drifts towards 100. Meanwhile the JPY seems to be driven by risk sentiment and thus the reversal of carry trades. A cut to 0.25% suggests a weakening but I am unsure that the JPY will respond to fundamentals at this juncture.

Japan Leading Index January 2008

Japan's leading index fell to 30 percent in January, below the threshold of 50 that signals growth will slow in the next three to six months, according to the Cabinet Office yesterday. The December number was revised to 50 from 45.5.

With consumer confidence at a four-year low it seems unlikely that household spending will continue to sustain the Japanese economy in the face of slowing export demand as the U.S. heads for its first recession since 2001, and the global economy in general stats to slow. Business investment fell at the fastest pace in five years last quarter, according to the Finance Ministry last week, indicating that the government will have to reduce its gross domestic product estimate when it produces the definitive Q4 figures next week.

Japan Capital Spending and Q4 2007 GDP Revision

This is just a brief note on the news from the Japanese Ministry of Finance this morning that capital spending excluding software declined 7.3 percent year on year in the three months ended Dec. 31. This was the fastest decline in capital spending to be registered in the last five years, and almost certainly means that the Japanese government will use the data to substantially revise down its extimate of Q4 gross domestic product which is due on March 12. Preliminary fourth-quarter GDP data suggested and an annualized rate of 3.7 percent.

The preliminary GDP report showed capital investment as rising at 2.9 percent from the previous quarter and contributing about half of overall growth. If we look at the chart this downward revision really is significant, and it does seem that after Q1 2007 Japanese investment spending fell off something of a cliff. As Claus said to me in a mail this morning this now makes 0.25% interest rates - and rather sooner than later - a virtual certainty.

Japan Housing Starts January 2008

Japan's housing construction sector crisis does seem to be flattening out, and new starts fell at the slowest pace in seven months in January. Ground broken on new homes and condominiums was still down - 5.7 percent from a year earlier - but this following a much stronger rate of decline - 19.2 percent - in December, and if we look at the chart - which is based on data from the Japanese Land Ministry, and measured in numbers of new units - we can see that the very sharp and dramatic rate of decline which took place in August/September has gradually been petering out. Of course, a reduction in the rate of decline hardly represents a recovery, but it is still welcome news, and does suggest that the crisis may finally be hitting bottom. The pace of any recovery will depend above all on what the root of the problem actually was. One part of the picture is undoubtedly the change in building regulations, but the coincidence that the timing of the strongest part of the slump coincided with the advent of the property related global credit crunch is surely too strong to simply ignore. Also, given that the crunch continues, and the medium term consequences for contsruction activity worldwide are still far from clear, we need to be cautious I think about any premature talk of "recovery". "Sufficient unto the day...." and all that.



Basically the decline in starts have been easing since falling 44 percent in September, which was the biggest slide since the government began keeping comparable figures in 1965. On an annualized basis, builders broke ground on 1.187 million new homes and condominiums in January, which was the most since last June.

And the problem is not simply restricted to domestic housing, as the chart below comparing starts measured by surface area between private residential and total (including non-residential and public) construction shows.




A rapid turnaround in the current situation is not expected. The Japanese Real Estate Economic Research Institute predict that condominium sales may fall for a third consecutive year in 2008. Condominium sales could well fall 8.4 percent to 123,000 units this year, after a 14 percent drop in 2007, the institute said in a report released through the Ministry of Land, Infrastructure and Transportation in mid February. Total sales dropped to 133,000 units in 2007 as the average price per unit rose 7.1 percent, the institute said. Sales by value fell 8.1 percent to 5.1 trillion yen ($47 billion). Condo prices had surged after commercial land prices rose for the first time in 16 years for the year ended June 30, while raw material costs including steel and copper soared.

As Takehiro Sato, chief Japan economist at Morgan Stanley in Tokyo, says "the downturn in residential investment involves more than just a policy mistake by the land ministry,...the steep climb in land and housing prices over the past two to three years despite sluggish nominal wages has significantly reduced affordability."

That is expect stabilisation, but don't expect a sudden return to expansion.

Japan Inflation and Retail Sales January 2008

Japan's consumer prices as measured by the General Index (ie including food and energy costs) rose for a fourth consecutive month in January at a year on year rate of 0.7%, maintaining the fastest pace achieved in more than nine years, as companies passed the higher costs of oil, wheat and soybeans onto consumers. Core consumer prices (ie stripping some foodstuffs) climbed 0.8 percent from a year earlier, the same rate as December. Until last November, core prices, which exclude fruit and vegetables but include other foods such as rice and bread, had either hovered around zero or fallen for nine consecutive years.

However the "core-core" index (ie stripping out both energy and food) continued to give a negative reading and was down year on year by 0.1%, a stituation which induced Japan's economy minister to say that progress out of deflation has come to a “temporary standstill". Which only leaves me wanting to say "I agree".




The inflation in food and oil seems set to continue however, and this is bound to have an impact on the tight wage packets the Japanese have been receiving of late. Japan, which is Asia's biggest wheat importer, plans to increase grain prices to flour millers by 30 percent in April, according to the Ministry of Agriculture, Forestry and Fisheries, and wheat prices surged to yet another record last week.


Crude oil has also been climbing hitting a record $103.05 a barrel earlier this week. Japan's petrol prices averaged 154 yen a liter ($5.60 a gallon) in January, close to December's record level 156 yen, according to figures from the Tokyo-based Oil Information Center.

Household spending has been visibly resisting the economic slowdown, and climbed 3.6 percent in January from a year earlier according to the latest data from the Japan statistics office.




And according to a separate report from the trade ministry, Japan's retail sales rose for a sixth consecutive month in January, climbing 1.5 percent year on year, in part because higher oil prices boosted revenue at petrol stations, but if you look at the chart below it is clear that there is - for some curious reason that I have yet to fathom out - more life in Japanese consumption since last autumn. Gasoline, kerosene and other fuels drove 44 percent of this months gain and car sales made up for more a third, the report said, but again this in itself is curious, since in the US and Europe at present - for example - car sales are falling, not rising, as petrol pump prices rise.

Economy Minister Ota, however, wisely continues to exercise caution, saying that while the consumption figures show spending remains "solid", waning confidence would also seem to indicate that households may start to pare back spending at some point in coming months.

Japan Unemployment January 2008

Japan's unemployment rate was unchanged (since last November) at 3.8 percent in January. The male jobless rate rose to 3.9 percent last month from 3.8 percent in December, while the female unemployment rate was unchanged at 3.7 percent, the Ministry of Internal Affairs and Communications said. The unemployment rate fell to a low of 3.6 percent last July, and this was the lowest level since February 1998.




The Ministry said the total number of unemployed in Japan was down by 80,000 year on year, marking the 26th straight month of year on year decline. It is not really clear how we should be interpreting this. Could we see in this steady reduction in the numbers of trend unemployment an indicator of Japan's tendency towards a smaller working age population? Certainly the numbers of unemployed remain low, and tend to fluctuate a bit in tandem with the fluctuations in economic activity.



It is also interesting to note that both the economically active population and the numbers of those employed have been declining slowly since reaching a May peak. I think it is too early to reach any decisive conclusion on this, but the data is tantalisingly interesting.



In addition Japan's Ministry of Health, Labor and Welfare reported that the ratio of job offers to job seekers was at 0.98 in January, unchanged from December (ie there were 98 jobs offered for every 100 workers seeking employment last month) while the ratio of new job offers to new job seekers grew to 1.49, up from December's revised figure of 1.43 (ie there were 149 new jobs for every 100 Japanese residents newly seeking employment). The level of job vacancies has effectively remained at a two-year low, indicating there is likely to be little upward pressure on wages.

The consensus opinion would seem to be the "employment is worsening", particularly at small and midsized companies, as expressed by Takehiro Sato, chief economist at Morgan Stanley in Tokyo.

Smaller companies, which employ 70 percent of the workforce, are being hurt by record oil prices and weak domestic demand. Employment among midsized and small companies fell in January while the number of employees increased 7.1 percent among large companies.