Tankan Indicates Japan is in Recession

The Q3 Tankan business survey released overnight by Bank of Japan (BoJ) was overall slightly weaker than expected. According to the survey business conditions in Q3 have deteriorated more than enterprises expected and they are expected to continue to deteriorate in Q4 albeit at a slower pace (see charts 2 and 3). Looking at the details the Tankan current conditions diffusion index for large manufacturers in Q3 declined to -3 (consensus: -2, Danske Bank: -2) from 5 in Q2. In Q4 large manufacturers expect business conditions to decline slightly to -4 (consensus: -3, Danske Bank: -4).

The development in Tankan is consistent with Japan currently being in recession (see chart 1). On the other hand, Tankan still indicates a downturn that does not look as deep as during the last two recessions in 1998 and 2001. This is mainly because exports and corporates, despite recent weakness, continue to perform favourably compared with the two previous recessions. That said, there is considerable downside to both business investments and exports in the current situation.

However, the outlook for corporate capital expenditure is weakening. According to the Tankan survey, planned capital expenditure for fiscal 2008 has been adjusted down to 1.7% y/y from 2.6% y/y in Q2. Compared with fiscal 2007, growth in planned capital expenditure has slowed significantly (see chart 7). Capacity utilisation has not yet declined as much as during the last recession in 2001, which is one of the reasons that planned capital expenditure is still doing much better this time around (see charts 7 and 8).

Outlook: Overall today's Tankan is consistent with our expectation of GDP growth close to 0.0% q/q AR in Q3 and around 0.5% q/q AR in Q4 although there might even be some downside risk to these very weak forecasts. However, we do expect the Japanese economy to gradually start recovering in H1 on the back of lower inflation and some stabilisation in the global economy. We still expect BoJ to be on hold for the next year. This expectation is currently priced very closely by the market with the 12M O/N forward currently trading at 0.50%.

Market impact: No major impact as JPY and the Japanese bond markets have been mainly driven by developments in the US.

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

Disclaimer

This publication has been prepared by Danske Markets for information purposes only. It is not an offer or solicitation of any offer to purchase or sell any financial instrument. Whilst reasonable care has been taken to ensure that its contents are not untrue or misleading, no representation is made as to its accuracy or completeness and no liability is accepted for any loss arising from reliance on it. Danske Bank, its affiliates or staff, may perform services for, solicit business from, hold long or short positions in, or otherwise be interested in the investments (including derivatives), of any issuer mentioned herein. Danske Markets´ research analysts are not permitted to invest in securities under coverage in their research sector. This publication is not intended for private customers in the UK or any person in the US. Danske Markets is a division of Danske Bank A/S, which is regulated by FSA for the conduct of designated investment business in the UK and is a member of the London Stock Exchange. Copyright (©) Danske Bank A/S. All rights reserved. This publication is protected by copyright and may not be reproduced in whole or in part without permission.