Japan: Tankan Plunges to the Lowest Level Ever in Q1

Overview: The Q1 Tankan business survey released overnight by Bank of Japan (BoJ) was as expected very weak, mostly due to the severe deterioration in the Japanese economy since the last Tankan survey in December last year. Today's Tankan suggests that GDP will contract sharply in Q1, but with some signs of stabilisation it does give some support to our view that Q1 (possible Q2) will prove to be the trough in the current downturn. Today's Tankan has no implications for our forecast for the Japanese economy. We expect GDP to contract by 2.7% q/q in Q1 and stabilise at 0.0% q/q in Q2. For 2009 as a whole we expect GDP to contract by 5.4%.

Details: The current conditions index for large manufacturers plunged more than expected to -58 (consensus: -55) from -24 in the previous survey (see chart 2). This is the lowest level ever registered in the Tankan survey. On a positive note, the large manufacturers outlook for Q2 declined slightly less than expected to -51 (consensus: -52) from -36 and overall large manufacturers now expect a slight improvement in Q2. This is consistent with the recent improvement in both manufacturing PMI (released yesterday) and the monthly Tankan Survey released by Reuters (see chart 12).

The weakness in manufacturing is increasingly spilling over to the rest of the economy although nonmanufacturing is still doing much better than manufacturing. The current condition index for nonmanufacturers in Q1 declined to -31 (consensus: -25) from -9 in the previous survey (see chart 3). Q2 outlook for non-manufacturers declined to -30 (consensus: -31) and just as for manufacturers there are signs that the outlook for the coming quarters has started to improve (see chart 10).

Financial conditions are getting tighter but looking at lending attitudes of financial institutions and conditions for issuing commercial papers, financial conditions are only back at 2004 level (see chart 8). This underlines that Japan's main problem is the collapse in external demand, not a domestic credit crunch.

Implications: Overall we believe the development in Tankan in Q1 is consistent with our current forecast for GDP in Japan (sharp contraction in Q1, stabilisation in Q2 and recovery in H2). For our forecast to be right Q1 should be the trough for Tankan and it should start to improve in coming quarters. Looking at the development in the monthly Reuters Tankan (a very reliable indicator for BoJ Tankan) this at least for now seems to be the case (see chart 10).

Risks to our forecast remain mainly on the downside as we fear both corporate investments (see chart 5 and 6) and exports (see chart 9) might turn out worse than expected. Currently we expect corporate investments to contract 10.5% in calendar year 2009. According to the Tankan survey large enterprises expect to cut investments in FY 2009 by 6.6%.

Hence, seen in this light our current forecast for corporate investments does not appear overly optimistic.

Market impact: There has been little market impact as the very weak Tankan-survey was largely as expected and there was some comfort in the slightly better-than-expected outlook for Q2. Despite the weakest Tankan ever Nikkei today closed up 3.0% and USD/JPY this morning is trading largely unchanged at 98.6. However, with the current extraordinary weak state of the Japanese economy, there is little room for a stronger JPY despite risk aversion returning to the market occasionally.

Danske Bank
http://www.danskebank.com/danskeresearch

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