Overview

Having entered a recession phase at the end of 2007, the Japanese economy has seen the severity of the adjustment increase in recent months. Following on from the April-June quarter, the growth rate for the July-September quarter was negative once again, and corporate sentiment and consumer sentiment have both seen a sharp deterioration.

Since the summer, or thereabouts, the reasons for the economic downturn have seen a significant change. Until the summer, rising resource prices were putting pressure on the corporate and household sector alike but, in recent months, the deceleration of the global economy, the fall in stock prices and the strengthening of the yen, all due to the worsening financial unease, have become negative factors, while resource prices have become a positive factor.

Accordingly, the three key points in any attempt to forecast the future movement of the Japanese economy will be as follows:

(i) The impact of market fluctuation
To begin with foreign exchange rates, as the yen has strengthened against almost all other currencies, its effective exchange rate has risen by approximately 10%. This has led to exchange rate losses, chiefly for exporters, and corporate performance for the second half of fiscal 2008 is set to decline. From mid-2009, a fall in export volumes and a rise in import volumes are likely to exert downward pressure on domestic production.
On an aggregate market value basis, the stockmarket has fallen to a 20-year low. Deteriorating sentiment, the downward pressure on consumption of the negative wealth effect, and latent losses in the corporate sector, among other factors, will continue to be negative factors into fiscal 2009.

(ii) Overseas economies and exports
By region, exports to Europe and America will continue to decline owing to the economic deceleration, and it is highly likely that shipments to resource-producing countries will begin to fall owing to the fall in resource prices. The growth of exports to China is expected to see a sharp slowdown. The negative impact of the strong yen will also start to become apparent. As a result of these trends, the decline in exports is likely to continue to the end of fiscal 2009.

(iii) The impact of the fall in resource prices
Meanwhile, the fall in resource prices has started to have a positive impact on the Japanese economy, through the agency of a fall in import payments (an income inflow). Besides helping to boost corporate earnings, this is exerting upward pressure on consumer spending through a fall prices. As the fall in domestic demand will lead to more widespread price competition, consumer prices in particular are likely to see a significant fall. As a result, the income inflow into the household sector (a rise in purchasing power due to falling prices) is likely to be greater than that into the corporate sector (improved earnings due to falling costs).

By sector of the domestic economy, the outlook is as follows:

(i) The corporate sector
Although the rate of decline in corporate earnings will slow as a result of the fall in the cost of raw materials, the fall in sales due to the deterioration of the domestic and overseas economies means that the downward trend of earnings will continue. Since capital utilization ratios will also see a sharp fall, the downward trend of capital investment is set to strengthen. By sector, the contrast in business performance will grow sharper. The downturn in the performance of processing-oriented manufacturing industry will increase in severity but, owing to the positive effect of the fall in resource prices, the negative impact on non-manufacturing industry will be smaller.

(ii) The household sector
Although teigaku kyufukin fixed-sum benefit payments will boost disposable income, the fall in employee wages and the deterioration in consumer sentiment due to the recession mean that nominal consumption is set to fall in fiscal 2009, the first time it has done so in six years. However, as prices will see a substantial fall, the growth of real consumption is set to accelerate and play an underpinning role in the economy.

In view of these trends and developments, it is likely that the recession phase, which the Japanese economy is currently experiencing, will become prolonged. The reason is that, although consumer spending will recover, against the background of a prolonged recession and market turmoil in Europe and America, the downturn in the corporate sector is set to grow in severity. In this respect, the current recession resembles the previous recession phase of 2001.
The economy is now on course for four straight quarters of negative growth in on a quarterly basis fiscal 2008 and two straight years of negative growth on a full fiscal year basis. However, economic indicators such as real GDI are set to improve.

For more information on the content of this report, please contact Hideki Matsumura, the Japan Research Institute, Limited.

Tel: 03-3288-4524
E-mail：matsumura.hideki@jri.co.jp

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