Japan’s GDP rebounds in Q3; Brexit talks approach end game

Chris Scicluna

‘Risk on’ tone continues in Asia today, assisted by local data
Not even new record high coronavirus case numbers or a much weaker-than-expected consumer confidence report could prevent Wall St ending last week on a positive note, with both the DJI and S&P500 up 1.4% on Friday – in doing so extending their gain for the week to 4.1% and 2.2% respectively. The risk-on tone saw the 10Y Treasury yield edge up to 0.90% (an 8bp gain for the week) while the greenback was slightly weaker against most major counterparts. And investors seem to have returned from the weekend break in a positive mood.

In part, this may reflect an expectation that this week may bring additional positive news regarding coronavirus vaccine trials. In addition, despite more dreadful case numbers in the US over the weekend, President–elect Biden’s top coronavirus advisers made public comments espousing a preference for targeted measures to contain the virus, rather than resorting to a new widespread lockdown. In any case, US equity futures are currently trading up almost 1%, helping underpin a positive start to the week in the Asia-Pacific region. But USTs and European govvies have also started the week a touch firmer. And Gilts are stronger too as developments in Downing Street over the past few days might suggest that a deal on a new EU-UK FTA is unlikely to come this week.

In Japan, where the economy rebounded 5.0%Q/Q in Q3 – fractionally more than expected, net of revisions, albeit still down 5.8%Y/Y (see below for the detail) – a rally in real estate and financial stocks helped the TOPIX to a gain of 1.7%. After the weekend signing of the Regional Comprehensive Economic Partnership (RCEP) , which seeks to reduce trade barriers in fifteen of the region’s largest economies, equity markets also advanced strongly in South Korea and to a lesser extent China, with sentiment further consolidated after the latter printed another set of generally positive economic data (more on this below too) including firmer-than-expected IP and capex and a further pickup in retail sales. Meanwhile, Australia’s stock market had opened up more than 1% before trading was soon halted for the day due to an undisclosed technical issue (according to the ASX, the market will reopen tomorrow as normal).

In the bond market, there was no reaction from JGBs to a speech by BoJ Board member Masai, who argued that as a result of the pandemic it will become crucial to give more consideration to the side effects of prolonged monetary easing (she added that it will be crucial to “take policy responses from a broader perspective” in order to ensure the sustainability of the policy).

Japanese GDP rebounds 5%Q/Q, led by net exports and consumption, capex falls again
The focus for investors in Japan today was on the preliminary national accounts for Q3. According to the Cabinet Office, overall activity rebounded 5.0%Q/Q (21.4%AR) during the quarter, beating market expectations for growth of around 4.4%Q/Q. However, sadly, this comes after a 8.2%Q/Q plunge in Q2 – 0.3ppts deeper than estimated previously. As a result, output was still down 5.8%Y/Y and 4.2% lower than in the final quarter of last year – a quarter in which output was somewhat depressed by the consumption tax hike.

In the detail, as to be expected, the strongest growth occurred in those expenditures that had contracted most severely at the onset of the pandemic. After declining 17.4%Q/Q in Q2 – slightly less than estimated previously – overall exports rebounded 7.0%Q/Q in Q3. All of that rebound was due to an 11.0%Q/Q increase in exports of goods, as exports of services fell a further 8.1%Q/Q to be down almost 31%Y/Y. Indeed, while spending by overseas visitors increased 11%Q/Q, given the horrific decline in Q2 it was still down almost 88%Y/Y. Meanwhile, total imports fell 9.8%Q/Q, with goods down 9.2%Q/Q and services down 12.1%Q/Q. As a result, net exports contributed 2.9ppts to Q3 GDP growth after subtracting 3.3ppts from GDP growth in Q2.

The other key contributor to GDP growth in Q3 was private consumption, which increased a less-than-expected 4.7%Q/Q thus contributing 2.6ppts to growth. However, this followed an 8.1%Q/Q decline in Q2 that was 0.2ppts deeper than estimated previously. The largest contributor was a 6.6%Q/Q rebound in spending on services, which had declined by more than 12%Q/Q in Q2 and so was still down almost 10%Y/Y. Spending on durable goods increased 4.4%Q/Q, but was still down over 13%Y/Y – about three-quarters of which can be explained by the high base effect due to spending ahead of last year’s consumption tax hike. It is worth noting that following a 3.8%Q/Q slump in Q2, real compensation of employees rebounded a meagre 0.5%Q/Q in Q3. This leaves real compensation down 3.0%Y/Y – nonetheless, a smaller fall than the 7.8%Y/Y decline in private consumption and indicative of continued caution by consumers.

As far as the other key expenditures are concerned, the preliminary report indicates that business investment declined by a further 3.4%Q/Q in Q3, adding to the 4.5%Q/Q decline in Q2. Moreover, given earlier declines in the wake of the consumption tax hike, this means that business investment was down 10.5%Y/Y and at the lowest level since Q214. As usual, we note that these figures are subject to the potential for significant revision once the Cabinet Office includes information from the MoF’s corporate survey (released 1 December). Meanwhile, after holding up in Q2, residential investment plunged 7.9%Q/Q in Q3 and so was down 14%Y/Y. Government consumption spending increased 2.2%Q/Q while government investment increased 0.4%Q/Q, thus allowing direct government spending to make a small positive contribution to growth. Private inventories are estimated to have subtracted 0.2ppts from growth, but this figure could be revised following the receipt of information from the aforementioned MoF survey.

Unsurprisingly, the deflators continued to point to a very weak inflation pulse, even after rebounding from particularly soft readings in Q2. The private consumption deflator increased just 0.1%Q/Q and 0.4%Y/Y, while the domestic demand deflator increased 0.6%Q/Q but just 0.1%Y/Y. The overall nominal GDP deflator increased 0.3%Q/Q and 1.4%Y/Y, so that so nominal GDP increased 5.2%Q/Q in Q3. Sadly, nominal activity was still an annualized ¥16trn lower than in Q1 and more than ¥25trn lower than the peak a year ago.

Looking ahead, the recent notable improvement in the PMI and other survey indicators bodes well for further economic recovery in the current quarter (we expect growth of about 1.6%Q/Q). However, it still seems likely that it will be late 2022 at the very earliest before Japan’s output approaches pre-pandemic levels and so continued monetary and fiscal stimulus will be required for some time yet.

Japan’s IP revised down fractionally, but capacity use rises to 6-month high
In other Japanese news, METI released its final IP report for September and as is usually the case the revisions were minor. Growth in total production was revised down 0.1ppts to 3.9%M/M, although the annual decline in output was unrevised at 9.0%Y/Y. Growth in shipments was revised up 0.1ppts to also sit at 3.9%M/M, with the annual contraction now also 0.1ppts smaller at 9.8%Y/Y. Combined, this means that inventories fell 0.5%M/M – 0.2ppts more than first reported – and so were down 5.7%Y/Y. Meanwhile, the inventory-shipments ratio fell 4.4%M/M – 0.7ppts more than first reported – but was still up 6.7%Y/Y. Finally, the new content in today’s release concerned capacity use, which in aggregate increased 6.4%M/M to the high level since March, but remained 7.6% below where it stood in January.

Trade and PMI reports the focus in Japan over the remainder of the week
Looking ahead, the next important release in Japan is Wednesday’s external trade report for October, providing the first hard insights into how the economy has begun the current quarter. Surveys suggest that analysts expect around three-quarters of last month’s ¥476bn trade surplus to have been erased, with imports expected to have risen from exceptionally weak levels and the pace of the recovery in exports expected to have slowed. On Friday most interest will probably centre on the flash PMI reports for November, to see whether there has been any backtracking from last month’s encouraging improvement – most likely in the manufacturing sector – due to developments in coronavirus cases offshore. The national CPI for October, also be released on Friday, will be weighed down by declines in food and energy prices. However, if advance data from the Tokyo area is any guide, the BoJ’s preferred core measure (i.e. ex fresh food and energy) should be little changed in the month, but is nonetheless likely to report an annual decline in prices with last year’s consumption tax hike now dropping out of the calculation.

China’s IP and capex beat expectations; retail sales growth also picks up
Turning to China, today the NBS released the remainder of the country’s key activity indicators for October – a month punctuated by the Golden Week holiday and so perhaps one where the data should be treated with additional caution. Nonetheless, the IP report was again consistent with the ongoing factory sector recovery that indicated by recent PMI and trade data. Indeed, unexpectedly, growth in IP held steady at 6.9%Y/Y – a modest slowdown was forecast by analysts – and so production for the year-to-date increased 1.8%YTD/Y. In the detail, growth in manufacturing activity did edge down 0.1ppts to 7.5%Y/Y, with slightly slower growth seen auto production and telecommunications and an outright decline in output recorded in heavy transport. Amongst others, increased growth was evident in the machinery sector (now running at 17.6%Y/Y). Outside of manufacturing, growth in mining activity picked up 1.3ppts to 3.5%Y/Y, but growth in power generation slowed 0.5ppts to 4.0%Y/Y.

The news from the demand side of the Chinese economy also improved in October, although in the case of consumer spending by less than the market had expected. Retail spending grew 4.3%%Y/Y, compared to 3.3%%Y/Y in September. Moreover, considering that CPI inflation slumped 1.2ppts during the month – reflecting lower food inflation – the real improvement again appears greater than indicated by the nominal growth data. In the detail, spending on restaurants and catering increased 0.8%Y/Y – the first time that annual growth has been positive this year – while spending on petroleum remained down 11.0%Y/Y. Unfortunately, even with the pick-up in September, retail spending was still down 5.9%YTD/Y reflecting the slump in spending recorded at the beginning of the year.

Moving to the business sector, investment spending on non-rural fixed assets increased 1.8%YTD/Y in October – slightly above market expectations and a 1ppt improvement on September’s outcome. The decline in private sector investment slowed further to 0.7%YTD/Y from 1.5%YTD/Y previously, while growth in state investment increased 0.9ppts to 4.9%YTD/Y. Coming off sharp declines earlier in the year, improving trends were evident across almost all industries. In the manufacturing sector, investment was still down 5.3%YTD/Y – a 1.2ppts improvement on the previous month – with the pharmaceuticals (21.2%YTD/Y) and telecommunications/computer (12.0%YTD/Y) sectors still the only to record positive year-to-date growth. Spending in the healthcare/social works sector increased a very strong 22.5%YTD/Y while spending in the education sector increased 13.1%YTD/Y. Finally, with the economy firmly on an expansionary path, the urban unemployment rate declined a further 0.1ppts to 5.3% in October – now back to where it stood in January.

China’s new home price inflation slows; calendar sparse for coming days
In addition to the swathe of activity indicators, today the NBS also released data measuring developments in home prices. New home prices increased 0.15%M/M in October – the smallest increase since March – causing annual growth to slow a further 0.3ppt to 4.2%Y/Y. Existing home prices rose a similar 0.11% in October – also the least since March – although annual growth remained at a 2.2%Y/Y. It is worth noting that the latter reflects low rates of inflation in second and third tier cities, as prices in first tier cities rose 8.0%Y/Y – not least due to a 15.5%Y/Y hike in prices in Shenzhen.

There are no further economic reports due in China this week but on Friday the PBoC will publish the 1- and 5-year prime lending rates that are an important benchmark for banks’ lending rates to businesses and households. With the PBoC today confirming its 1-year Medium Term Lending Facility rate at 2.95% – where it has been since April – these benchmark rates are very likely to remain steady at 3.85% and 4.65% respectively.

Plenty more ECB-speak to come this week
After last Wednesday’s extremely dovish speech from Christine Lagarde, this week will bring plenty more communication from the ECB, with Lagarde again set to speak publicly today, tomorrow, Thursday and Friday, and several other members of the Governing Council in action too. But it will be a relatively quiet one for top-tier economic data from the euro area. Perhaps the most notable will come at the end of the week, with the Commission’s flash estimate of consumer confidence in November. Due to the rising second wave of the pandemic, this indicator fell in October to its lowest level since May. But while the spread of Covid-19 has continued to intensify, placing significant pressure on health services, and many member states have increased the stringency of restrictions on activity to try to control the spread, news of progress towards the development of an effective vaccine might give some support to sentiment.

Ahead of the final estimate of euro area inflation in October, due Wednesday, the Italian figures will be released this morning. The flash Italian estimate on the EU-harmonised measure rose 0.4ppt to -0.6%Y/Y, partly reflecting prices of food and energy. But higher prices of clothing and footwear due to the end of the summer sales pushed up core inflation too. Given Friday’s upwards revisions of 0.1ppt to the EU-harmonised measures from France (0.1%Y/Y) and Spain (-0.9%Y/Y), there is a risk of a similar upwards revision to the headline euro area figure from the preliminary estimate, which was unchanged from September at a four-year low of -0.3%Y/Y. The core rate, however, should be unchanged at the series low of 0.2%Y/Y. Other new data due this week include October new car registrations for the region on Wednesday and euro area construction output data for the same month on Thursday – following four successive months of growth, construction output will likely post a sizeable decline due not least to a plunge of 8.4%M/M in France.

Brexit talks approach end game as Johnson self-isolates
After a turbulent past week at Number 10, with the departure of two of Johnson’s most “Brexity” senior advisors (Cummings and Cain) – seemingly more due to reasons of conduct and personality than policy difference – followed by the PM’s self-isolation due to contact with an MP who subsequently tested positive for Covid-19, the focus this week will remain on the negotiations between the EU and UK on post-transition arrangements. Talks resume in Brussels today. But it seems highly unlikely that any breakthroughs can be made before EU leaders hold a teleconference on Thursday. With time running out, that event might act as the trigger for new attempts at the highest political level to reach a compromise deal, settling the outstanding issues related to the level playing field, governance and fish. However, given Johnson’s personnel problems back in Downing Street, it seems highly unlikely that this will be the week for him to seek a deal, for risk of being perceived too soft on Brussels now that Cummings and Cain have departed.

Data-wise, the UK highlights of the coming week will be the October reports for inflation (on Wednesday) and retail sales (Friday).Headline inflation in September rose 0.3ppt to 0.5%Y/Y, with the core measure rising 0.4ppt to 1.3%Y/Y, reflecting the increase in restaurant prices at the end of the government’s Eat Out to Help Out scheme. We expect headline inflation to edge up a little further, to 0.6%Y/Y, principally reflecting base effects related to the drop in oil prices a year earlier. Indeed, we expect core inflation to slip back, as the second wave of pandemic last month weighed on demand for some goods and services, some of which were increasingly subject to localized restrictions as the month wore on. Meanwhile, surveys from the CBI and BRC point to a softer month for retail sales in October following five successive increases, which left the level of sales more than 5% above February’s pre-pandemic level. Nevertheless, sales in October seem likely to benefit from renewed pandemic-related stock-building as well as the persisting shift in spending from services to goods. Other data due in the coming week include October public finance figures, which will also be released on Friday.

In the US the focus turns back to the real economy this week
Following last week’s inflation reports, most of the focus this week will be on reports casting light on developments in the real economy. The data flow begins today with the NY Fed releasing the first of this week’s regional manufacturing surveys for October. More importantly, tomorrow most attention will centre on the retail sales report for October. Following a very strong September, and despite a slight dip in auto sales, we expect a further 0.4%M/M lift in retail spending during the month. Meanwhile, given the reported lift in manufacturing hours worked and indications from the mining sector, we expect that IP likely grew 0.7%M/M in October, thus reversing the decline reported in September. Tomorrow will also bring business inventory data for September, while the NAHB housing index for November will begin a run of housing-related reports.

Looking further ahead, on Wednesday we will receive US housing starts and building permits for October, which will like continue to point to a surge in home construction activity (we expect starts to have increased 6.0%M/M to the highest level since February). However, on Thursday, and after running up sharply in recent months, existing home sales are likely to record a slight dip in October if pending home sales and mortgage applications are any guide. That day will also bring the Conference Board’s leading indicator for October, the latest manufacturing surveys from both the Philadelphia and Kansas Fed, and the weekly jobless claims report. There are no key economic reports scheduled for Friday. This week’s Fed speaking diary is reasonably light, but starts today with Governor Clarida taking part in an online discussion on the economic outlook. So aside from the economic data, most interest will likely centre on Washington DC and any news concerning coronavirus and vaccines.

Labour market data to grab most attention in Australia this week
There were no economic reports of note in Australia today. Looking ahead to the remainder of the week, tomorrow the RBA will release the minutes from this month’s Board meeting, but these are unlikely to add much insight given fulsome commentary already provided by the RBA since the meeting. On Wednesday we expect another very small increase in the wage price index to be reported in Q3, so that annual wage inflation is likely to decline further from the record low already recorded in Q2. Attention will stay with the labour market on Thursday with the release of the Labour Force Survey for October. Polls suggest that analysts expect employment to have declined by a further 27.5k – similar to last month – causing the unemployment rate to rise 0.2ppts to 7.1% – albeit still almost a full percentage point below the RBA’s recently downwardly-revised assessment of the likely peak. The week will conclude with the ABS reporting its preliminary estimate of retail sales in October, which should benefit from the re-opening of stores in Melbourne.

Kiwi services PMI picks up in October
The only economic report in New Zealand today was the services PMI for October. In contrast to its manufacturing counterpart, the services index improved 1.0pts this month to a 3-month high of 51.4. In the detail, while the activity index fell 2.4pts to 49.9, the new orders index increased 2.9pts to 58.4 and the employment index increased 0.6pts to 49.5. The remainder of this week’s Kiwi diary is unlikely to generate much market interest with only Wednesday’s Q3 PPI report of any note. 

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