Japan's IP, retail sales & inflation reports underwhelm

Chris Scicluna
Emily Nicol

Heightened uncertainty about the global economic outlook – exacerbated by further trade war comments from President Trump this time with respect to Mexico – weighed further on global markets yesterday. The rally in major government bonds continued – yields on 10Y USTs fell to their lowest level since 2017, while those on 10Y JGBs were back down to -0.10%. And this morning has seen yields on 10Y Bunds briefly break through -0.20% for the first time since 2016. Meanwhile, the major Asian equities were hit overnight by some disappointing Japanese activity and inflation data (see more below), as well as a weaker Chinese manufacturing PMI – indeed, the Japanese TOPIX closed the day 1.3% lower, while the Chinese CSI300 was 0.3% lower. And this trend appears to have continued into European markets this morning, with a disappointing German retail sales report (more details below) adding the downbeat flow of data releases overnight. Turning to the rest of the day, attention will be on flash CPI releases from Germany and Italy, which seem bound to highlight that price pressures remain very subdued in the euro area.

An extremely busy end of the week in Japan has seen the release of a flurry of top-tier reports covering developments in both activity and prices. Overall, there was nothing to signal a marked improvement in economic momentum at the start of Q2, while the forward-looking Tokyo CPI suggests that inflation has passed its peak.

Given the significant contraction in the manufacturing sector in Q1 – with the 2½%Q/Q decline the steepest since the post-consumption tax hike retrenchment in Q214 – much focus today was on April’s IP report for any signs of improvement at the start of the second quarter. But while IP came in a touch stronger than expected, the 0.6%M/M increase merely reversed the decline in March to leave output still down more than 1%Y/Y. And the improvement was principally driven by production of transport equipment (4.2%M/M) and ICT equipment (7.1%M/M). In contrast, production of general and electrical machinery fell by 8½%M/M and 1½%M/M respectively, while electronic parts and devices output was down more than 7½%M/M. So, while production of consumer durable and construction goods (up 2.4%M/M a piece) largely reversed the decline in March, production of capital goods continued to weaken, falling for the third month out of the past four.

Elsewhere in the report, there was a welcome pickup in shipments in April (1.7%M/M), while inventories were unchanged on the month (albeit leaving them still more than 1% higher than a year earlier). So, the inventory-shipment ratio fell a notable 2½%M/M to its lowest level since November, raising some cautious optimism about the near-term production outlook. Nevertheless, as usual the METI’s production projections for May (5.6%M/M) look overoptimistic, particularly in light of the extended Golden Week holiday this year. Certainly, the flash manufacturing PMI in May signalled a steeper pace of contraction.

The news from the retail sector was not overly encouraging at the start of Q2 either. Contrasting with an expected increase, retail sales moved sideways in April, with a second successive decline in sales of motor vehicles offsetting a pickup in spending on clothing and food. Admittedly this followed two months of modest increases, to leave the level of sales in April a touch higher than the average in Q1. But the near-term outlook for consumption remains highly uncertain, not least given the continued deterioration in consumer confidence. Indeed, today’s survey saw the headline index fall for the eighth consecutive month in May, and by 1pt to 39.4, its lowest level since the start of 2015 and below the long-run average. And while the weakness was broad based, there was a further notable decline in households’ willingness to buy durable goods, with the relevant indicator posting the largest monthly decline (1.6pts) since March 2014.

The latest labour market figures had a softer feel to them too. Admittedly, the headline figure was more positive, with the unemployment rate declining in April by 0.1ppt to 2.4%. But this reflected a notable drop in the number of people in the labour force that month (380k), while the number of people employed also fell a sizeable 300k. Moves of this magnitude are not unusual – indeed, this follows a cumulative increase of 670k in the previous two months. And compared with a year earlier, the number of people in employment was still more than 300k higher. But this is a marked slowdown in growth seen over recent years. And while the job-to-applicant ratio was steady for the sixth consecutive month at 1.63 in April – indicating a very tight labour market – there was a further decline in the number of job offerings that month, down for the fourth consecutive month to their lowest level since October 2017.

Finally, while coming in slightly above expectations, the advance CPI for the Tokyo area for May will have made for some disappointing, albeit not unexpected, reading for the BoJ, with the key aggregates suggesting that inflation has now passed it peak. Indeed, the headline index fell 0.2%M/M, leaving the annual rate also moderating 0.2ppt to 1.1%Y/Y. And the core measures also fell back, with for example, the BoJ’s forecast core rate (excluding fresh food prices) down 0.2ppt to 1.1%, while its new preferred core measure (excluding food and energy) fell to just 0.8%Y/Y. This in part reflected a moderation in prices of package tours (which in April had seen a temporary boost related to the extended Golden Week holiday). A softer increase in electricity prices also played its role. And with energy prices also likely to provide less support to headline CPI over coming quarters due to base effects, we expect to see a steady decline in the headline and core rates of CPI over coming months.

While the Chinese economy appeared to have turned for the better at the turn of the quarter, today’s May PMIs suggested that this might have reflected temporary factors, particularly in the manufacturing sector where the ongoing China-US trade war continues to weigh on sentiment. Certainly, the manufacturing PMI disappointed, with the government’s official headline index falling for the second successive month and by 0.7pt to 49.4, back in contractionary territory for the fourth month of the past six. But while the output index remained in expansionary territory (51.7), the new orders PMI fell back below 50 for the first time since February, with a notable drop in the new export orders index to just 46.5. The non-manufacturing survey fared slightly better, with the headline index unchanged at 54.3. And while the new orders PMI fell to a six-month low it remained just in expansionary territory. So, the composite PMI edged down only slightly in May, by 0.1pt to 53.3, to leave the average so far in Q2 marginally firmer than the average in Q1.

Euro area:
Attention in the euro area this morning was on the latest German retail sales figures for April, for insight into the pace of consumption growth at the start of the second quarter. And while the headline year-on-year figure was impressive, the 4% increase was largely boosted by the timing of Easter this year. Indeed, the underlying detail was much weaker than expected in April, with sales down 2% on the month, the most since December. While German retail sales are often revised in due course and April’s weakness represents the first monthly decline so far this year, against the backdrop of weakening consumer confidence, today’s release further supports our view that the surge in household consumption in the first quarter of the year was exaggerated by temporary factors, with a slowdown in spending on the cards in Q2.

Of course, ahead of next week’s flash euro area inflation release, attention will also be on the preliminary German and Italian releases to better gauge just how much the headline and core CPI rates fell back in May. Certainly, the French and Spanish figures published earlier this week came in the soft side, with the headline EU harmonised rates falling 0.4ppt to 1.1%Y/Y, a 20-month low, and 0.2ppt to 0.9%Y/Y, a 16-month low, respectively, with both more than reversing the jump seen in April. So, while the equivalent German figure is expected to have declined 0.7ppt to 1.4%Y/Y to fully offset the Easter-related boost in April, we think risks to this forecast are skewed to the downside.

In addition, revised Italian GDP growth for Q1 is likely to align with the previous estimate at 0.2%Q/Q, with this release to bring the first official expenditure breakdown in Q1.

As political uncertainty remains to the fore in the UK, it was perhaps no surprise that the latest sentiment surveys continue to suggest that consumers and businesses alike remain broadly downbeat about current and future conditions. Indeed, while the GfK’s headline consumer confidence indicator edged slightly higher in May to its highest level since October, at -10 it still remained relatively weak and well below the levels seen before the 2016 referendum. And firms were even more downbeat in May, with the Lloyds business barometer declining 4pts to 10, close to the bottom of the recent weak range. Against this backdrop, the UK’s business lobby – the CBI – today warned the Conservative leadership candidates again of the potential severe damage to businesses from a no-deal Brexit scenario. This morning will also bring the Bank of England’s latest lending figures for April.

In the US, attention today will be on the latest monthly personal income and spending figures for April, including the deflators closely watched by the Fed. This afternoon will also bring the final reading of the University of Michigan’s consumer confidence survey. In other news, FOMC members Bostic and Williams are due to speak publicly.


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