Well today's economic news continues to pile on the pressure over at the BoJ:
Demand for services in Japan unexpectedly fell in May, suggesting waning consumer spending is slowing growth in the world's second-largest economy. The tertiary index, a gauge of money spent on phone calls, dining and shopping, dropped 0.1 percent after climbing a revised 1.6 percent in April, the Trade Ministry said today in Tokyo.
I'm not sure that this was entirely unexpected, especially in the light of the recent confidence index reading, and the trend downwards in wages in Japan.
All this makes me think that my view on the possibility of a BoJ rate rise in August may be excessively cautious. When I wrote this post last week, I though that it was maybe 40-60 that they would not raise, now I would bring that down to 50-50.
There are a number of reasons for this. In the first place, and as Bloomberg notes:
Japan's growth probably slowed in the second quarter as consumers, whose outlays account for more than half of the economy, reined in spending.
Now since the BoJ explicitly mention Q2 GDP as a key test, this will give them problems, although that doesn't mean that they can't change the story and carry on regardless.
But then there is this:
The Social Insurance Agency said in May that its mishandling of pension records could result in billions of yen in unpaid benefits. Bank of Japan Governor Toshihiko Fukui said last week that the pension issue and higher taxes might prompt consumers to spend less.
The pensions scandal has caused much more upheaval in Japan than most external commentators seem to recognise, and you need to remember that Japan is going to have elections later this month. Things don't look at all good for the LDP, and they look simply disastrous for Abe. So, as the IHT says:
Electoral defeat would not immediately threaten the ruling coalition's hold on power because it has a commanding majority in the lower house. But a loss would cause embarrassment and likely prompt party leaders to force Abe from office.
In other words electoral defeat would not immediately threaten the ruling coalition's hold on power, but it would shake things up a hell of a lot, and this will not go un-noticed over at the BoJ, which will certainly come under the accusation of having paid more attention to image maintenance at the G7 meets, and less to the real and perceived needs of the Japanese people.
Bank of Japan Governor Toshihiko Fukui seems to be living more in the ethereal than the real world right now, since he reportedly said last week that slower growth wouldn't decide the outcome of the bank's August policy meetin since ``Private consumption is solid, though by no means spectacular,'' (verbatim).
He is also holding fast to the opinion that "At present, there's no evidence these problems have had a negative effect"
According to a Japan government report out today "Japan's economy is 'recovering'. It remains to be seen for just how much longer this position remains sustainable.
Japan Real Time Charts and Data
Edward Hugh is only able to update this blog from time to time, but he does run a lively Twitter account with plenty of Japan related comment. He also maintains a collection of constantly updated Japan data charts with short updates on a Storify dedicated page Is Japan Once More Back in Deflation?
Tuesday, July 17, 2007
Thursday, July 12, 2007
Summer Hike at the BOJ?
Cross-post from Alpha.Sources
Things are suddenly getting interesting in Japan and at the BOJ with markets solidifying for a August hike on the one side and somewhat deteriorating economic fundamentals on the other. Yesterday, the BOJ chose to hold rates steady with a vote of 8 to 1 but by taking a quick sweep across market indicators they all indicate that an August hike is in the bag or at least in September where swap contracts on the overnight call rate indicate a 96% probability of a hike; in August the corresponding probability is 73%. Yet, you cannot but wonder that feelings are getting increasingly more itchy across trading desks as regards to the timing of the next BOJ move and whether in fact it will come in 2007 at all? This then brings us into my statement above concerning 'somewhat' deteorating economic fundamentals a topic which I also elaborated in my last note on Japan.
Let us however begin with the good news represented by the latest data on Japan's external balance which showed that the current account surplus widened to an all time high in May 2007. The big story here is however not so much the trade surplus which indeed is thundering along just fine with a 1% increase but rather the income surplus which also posted a healthy gain. It is of course difficult to say to which degree Mr. and Ms. Watanabe are responsible but in a more general perspective it is amazing to see the sea change in Japan where domestic investors traditionally exhibited notable home bias something which is undoubtedly contributing to the recent impressive growth in the income surplus. This small snippet from Bloomberg is very much to the point ...
The income surplus exceeded the trade surplus for a fifth month in May, the Finance Ministry said. The difference between money earned abroad and payments made to foreign investors in Japanese companies surged 36.6 percent to 1.79 trillion yen, the second highest on record.
Returning to the domestic economy we don't yet have real data from June which makes my previous note on the May data pretty much up to date, at least when it comes to inflation and domestic consumtion data. However, we do have some confidence indicators which do not exactly make August's BOJ any easier to the extent that we were pretty certain that a hike would be on the menu. Firstly, we have the confidence measure for merchants which fell in June and secondly we saw, rather worryingly, that consumer sentiment also dropped. However, as a last data point we also recently saw that machinery orders rose briskly in May which perhaps suggests that corporate capex is ready to nudge back up over the summer although as Edward notes in this post and accompanying graph, corporate capex/industrial production is still on a high level in relative terms.
In Summary
As per usual we have a bit of good and and a bit of bad news from Japan this time around. Coupled with yesterday's decision to hold rates steady markets still seem convinced that August will see the BOJ move to 0.75%. Everyone seems more or less certain on this and even the always duly skeptical (and excellent) Takehiro Sato from MS' GEF also recently noted that the BOJ could raise in August although whether they actually should is of course another question. Regarding my own call I feel a bit of deja vu pointing back to February where markets were snubbed by the BOJ in what was also, at the time, an almost sure move. And in thread with Edward I really do not hope for MS that they have to apologize again come August. No tongue in cheek should be detected here, Japanese economic conditions and monetary policy are not at all easy, at this point, to forecast and this is especially the case when it comes to the BOJ's rate decisions. In line with my recent explicit call for a hike to 0.75% I am sincerely wobbling at the moment; especially, given the recent signs that the modest yet, by Japanese standards, impressive spurt in domestic demand is coming to an end in Q3 and Q4 2007. As such, and dare I say it, I am moving back into hold territory for August with the important qualifier that domestic demand and inflation figures for June could swing me back in line with the consensus if they exceded expectations which in this case would represent a mild improvement over May. Before I leave, I should also note the increasing uncertainty surrounding the general rate policy discourse at the BOJ where both Fukui and other prominent members of the committee have noted how the current gradualism might give way to a willingness to raise even as inflation remains subdued. This would then point to a more forward looking course with an explicit assumption of inflation pressures building in 2008. However, this is also the whole issue here at this point and August will be a test to whether this discourse will also translate into action, I have my doubts but the outlook is clouded indeed.
BoJ Rate Decision Vote
The fact that the BoJ vote on holding the interest rate were it is came in at 8-1 is causing a bit of a stir:
"The 8-1 vote left an impression that BOJ board members were more cautious about a rate hike than previously thought, spurring short covering in bonds," said Takeo Okuhara, a bond strategist at Daiwa Institute of Research.
Now back at the end of June Morgan Stanley's Takehiro Sato announced on their Global Economic Forum that they were finally throwing in the towel and coming into line with the rest of the pack in forecasting another rate hike in August. Let's just hope they won't have to apologise to their readers yet one more time. Looking at what is happening to consumer confidence and domestic demand right now, I can't help feeling that they may well have to.
We had expected a pace of one rate hike every six months but no rate hike in the summer because of the negative CPI rate. It has become clear, however, that the current price trends matter less to the BoJ than we expected. In addition, the BoJ maintains that it can smoothly realize sustained economic activity and prices in line with its forecasts if it adjusts its policy rate as the market expects. We thus find it difficult to continue to ignore the fact that the OIS market has priced in an almost 100% probability of a summer rate hike, and we abandon our previous, out-of-consensus forecast, and now expect the next rate hike to come at the August 22-23 meeting, more or less as we expected before the February rate hike. As difficult as it is to take losses on negative-carry positions, it is we who must take responsibility for having misjudged the BoJ’s level of conviction.
"The 8-1 vote left an impression that BOJ board members were more cautious about a rate hike than previously thought, spurring short covering in bonds," said Takeo Okuhara, a bond strategist at Daiwa Institute of Research.
Now back at the end of June Morgan Stanley's Takehiro Sato announced on their Global Economic Forum that they were finally throwing in the towel and coming into line with the rest of the pack in forecasting another rate hike in August. Let's just hope they won't have to apologise to their readers yet one more time. Looking at what is happening to consumer confidence and domestic demand right now, I can't help feeling that they may well have to.
We had expected a pace of one rate hike every six months but no rate hike in the summer because of the negative CPI rate. It has become clear, however, that the current price trends matter less to the BoJ than we expected. In addition, the BoJ maintains that it can smoothly realize sustained economic activity and prices in line with its forecasts if it adjusts its policy rate as the market expects. We thus find it difficult to continue to ignore the fact that the OIS market has priced in an almost 100% probability of a summer rate hike, and we abandon our previous, out-of-consensus forecast, and now expect the next rate hike to come at the August 22-23 meeting, more or less as we expected before the February rate hike. As difficult as it is to take losses on negative-carry positions, it is we who must take responsibility for having misjudged the BoJ’s level of conviction.
Wednesday, July 11, 2007
Japan's energy dependency
A key quote from the Bloomberg article that Edward referenced in the previous post is the statement that "rising food and energy prices are eating into the cost of living." While the USA's dependence on foreign oil is frequently discussed in mainstream media, it is important to remember that Japan is even more dependent on foreign supplies of essentially all fuels; whether it be oil, natural gas, or uranium for the country's nuclear power plants.
The country's export manufacturers can to some degree pass on higher energy costs to buyers, particularly since the yen remains weak and energy makes up a relatively low fraction of the final cost of most manufactured exports. The consumer in Japan, on the other hand, has little alternative. Many, many homes in Japan still rely on kerosene fuel for heating, and are poorly insulated, with the potential for conversion to another source of heating such as electrical systems being minimal. So the fuel bill will reduce the consumer's cash available for discretionary spending.
Also, the Japanese agricultural sector is heavily subsidized, and inefficient compared to other countries. A drive through rural parts of Japan will reveal many small plots of rice fields. The retail price of a bag of rice at Japanese supermarkets is far above that of the same quantity in the US, and likely the same in relation to other countries. A policy that could be implemented in short order that would benefit Japanese consumers immensely would be to eliminate import restrictions on foreign agricultural products, particularly rice. Food prices in Japan would quickly drop radically, freeing up disposable cash.
This policy option is unlikely to be implemented, as the balance of power in the Japanese legislature lies with agricultural and rural interests who would obviously suffer as the result of such a policy. Although Japan's population obviously is highly urbanized; due to the way that their political systems are set up, seats in the legislature have not been reapportioned to reflect demographic changes. I highly recommend Karel van Wolferen's "The Enigma of Japanese Power" for an explanation of Japan's political system. While somewhat dated at this point, the book gives the reader a lot of insight into how the country's political system works.
In particular, the book illustrates how Japan's economic policy has been to subsidize export industries at the expense of the domestic consumer. The continuing weakness of Japan's domestic consumption is a case, so to speak, of the chickens coming home to roost. The country's policy makers at this point have little ability to shift this policy, as reduced exports would negatively effect GDP more quickly than the benefit to domestic consumption would appear, particularly given the prospects for a rapidly shrinking population.
The country's export manufacturers can to some degree pass on higher energy costs to buyers, particularly since the yen remains weak and energy makes up a relatively low fraction of the final cost of most manufactured exports. The consumer in Japan, on the other hand, has little alternative. Many, many homes in Japan still rely on kerosene fuel for heating, and are poorly insulated, with the potential for conversion to another source of heating such as electrical systems being minimal. So the fuel bill will reduce the consumer's cash available for discretionary spending.
Also, the Japanese agricultural sector is heavily subsidized, and inefficient compared to other countries. A drive through rural parts of Japan will reveal many small plots of rice fields. The retail price of a bag of rice at Japanese supermarkets is far above that of the same quantity in the US, and likely the same in relation to other countries. A policy that could be implemented in short order that would benefit Japanese consumers immensely would be to eliminate import restrictions on foreign agricultural products, particularly rice. Food prices in Japan would quickly drop radically, freeing up disposable cash.
This policy option is unlikely to be implemented, as the balance of power in the Japanese legislature lies with agricultural and rural interests who would obviously suffer as the result of such a policy. Although Japan's population obviously is highly urbanized; due to the way that their political systems are set up, seats in the legislature have not been reapportioned to reflect demographic changes. I highly recommend Karel van Wolferen's "The Enigma of Japanese Power" for an explanation of Japan's political system. While somewhat dated at this point, the book gives the reader a lot of insight into how the country's political system works.
In particular, the book illustrates how Japan's economic policy has been to subsidize export industries at the expense of the domestic consumer. The continuing weakness of Japan's domestic consumption is a case, so to speak, of the chickens coming home to roost. The country's policy makers at this point have little ability to shift this policy, as reduced exports would negatively effect GDP more quickly than the benefit to domestic consumption would appear, particularly given the prospects for a rapidly shrinking population.
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