BoJ Tankan points to slight lift in conditions in Q3

Chris Scicluna
Emily Nicol

Wall Street set to start October much as it ended September, with fiscal worries weighing on markets; major Asian bourses down 1-2% today (China/Hong Kong closed)
While, as signalled, Congress passed a continuing resolution to avert a government shutdown, the S&P500 closed down 1.2% yesterday – taking its September loss to almost 5% – as investors refocussed on even more pressing fiscal matters, such as the need to raise the debt ceiling by around mid-October in order for the US to mitigate risks of defaulting on its obligations. Doubtless also on investors’ mind was the lack of progress in moving forward the bipartisan $550bn infrastructure bill – scheduled to have been voted on yesterday but pulled by House Speaker Pelosi – and a planned $3.5trn budget bill that Democrat moderate Senator Joe Manchin has said he would like to cut to just $1.5trn (doubtless emboldening his Republican counterparts). With the market weakening into the close, the price action has continued in today’s Asian session, with S&P minis currently down more than 0.5%. The risk-off tone has also seen Treasury yields move further off this week’s highs, with the 10Y note currently yielding less than 1.48%. A mixed session for the dollar has seen it little changed overall, but weaker against the yen which, as usual, has been the main beneficiary of increased risk aversion.

Against that background it has been a poor day for those Asian bourses that are open (China was closed for the beginning of the Golden Week holiday, while Hong Kong was also closed today). In Japan, the TOPIX has declined more than 2%, gaining no obvious support from a BoJ Tankan survey that was fractionally firmer than that undertaken three months ago, albeit with improvement confined mainly to those manufacturers with an export base (we provide a comprehensive summary of the Tankan below). And clearly no comfort could be taken from a stable unemployment rate in August (which reflected equally large declines in employment and the labour force amidst record virus cases) or from a modest upward revision to the manufacturing PMI for September (with both the output and new orders indices remaining in contractionary territory). In Japanese political news, the Nikkei newspaper reported that soon-to-be PM Fumio Kishida will install Shunichi Suzuki as the country’s next Finance Minister, replacing the long-serving octogenarian Taro Aso (Suzuki happens to be Aso’s brother-in-law).

Elsewhere, declines of over 2% have also been recorded in the major bourses in Taiwan and Australia, even as the latter confirmed a large rebound in its manufacturing PMI and a further hefty lift in house prices in September. In other Aussie news, PM Scott Morrison announced that, for vaccinated citizens, the Government will lift its tight restrictions on overseas travel in November – a month earlier than previously planned banned. Meanwhile, NSW Premier Gladys Berejiklian resigned suddenly after it was announced that she is now under investigation by the state’s anti-corruption agency concerning conduct in 2012-2018 relating to grant funding while in a relationship with a state MP. Bourses have also declined by more than 1% in Singapore and South Korea.

BoJ Tankan points to slight improvement, concentrated amongst manufacturers (especially exporters); capex forecast lifts marginally but firms see no uplift in medium-term inflation
The focus during another busy day for data in Japan was the BoJ’s Tankan survey, which will feed into the Bank’s analysis in this month’s updated Outlook Report. In summary, the report indicated only a minor improvement business conditions over the past three months, concentrated in the manufacturing sector where conditions remain favourable overall, especially for exporters. Conditions were characterised as still broadly neutral in the non-manufacturing sector, with respondents expecting at most marginal improvement over the coming quarter. Elsewhere in the survey, firms were slightly more optimistic about their sales in FY21. Forecast for profits were revised materially higher, but this translated into only a small upward revision to forecast capex spending in FY21. With firms reporting less spare capacity and greater comfort with inventories, near-term pricing pressures firmed a little. But sadly for the BoJ, firms’ medium-term inflation expectations were unchanged and so still nowhere near consistent with the Bank’s 2% target.

Turning to the key detail, a net 2% of all respondents reported unfavourable business conditions in Q3, down just 1ppts from in Q2, but still the best reading since Q419. A modest degree of improvement was reported in the manufacturing sector, with the closely-watched diffusion index (DI) for large firms rising an unexpected 4ppts to 18 – the highest level since Q418. The improvement was reasonably broad-based across industries, with the only notable declines occurring in the shipbuilding/heavy machinery and motor vehicle industries – both also reporting unfavourable conditions on balance – with the latter doubtless reflecting the supply chain issues that were evident in yesterday’s IP report. Looking ahead, a net 14% of large manufacturers expect favourable conditions to prevail in Q4, which was in line with the consensus estimate. It is worth noting that large exporters are assuming an average exchange rate of ¥106.72/$ in FY21, so these firms would likely be more confident if the yen were to remain near its current level. As is typical, small- and medium-sized firms were less upbeat, but still reported a modest improvement in conditions. For example, the DI for small firms increased 4ppts to -3 (comfortably above the long-term average of -12), while a similar net 4% of firms expect that conditions will remain unfavourable in Q4 – in both cases less negative than the consensus estimate.

Moving to non-manufacturers, the DI for large firms increased by just 1ppts to 2 – fractionally above the consensus estimate but still below the long-term average of 5, clearly reflecting ongoing disruptions caused by the pandemic. Indeed, conditions remained dire in the hospitality sector, with the relevant DI stuck fast at a -74. Meanwhile, the DI for firms providing services to individuals fell 14ppts to a very poor -45 and that for retailers fell 6ppts to -4. However, these and other smaller declines were offset by improved conditions elsewhere, especially for firms providing services to business where the relevant DI increased 12ppts to 38 – the highest reading for any industry across the entire survey. Looking ahead, a net 3% of large non-manufacturing firms expect favourable conditions over the coming quarter. This represented a smaller incremental improvement than the consensus expectation. As in the manufacturing sector, small- and medium-sized non-manufacturing firms were more negative about both Q3 and the outlook for Q4. For example, the DI for small firms fell 1ppts to -10 while a net 13% of firms expect unfavourable conditions in Q4.

Elsewhere in the survey, firms now forecast that aggregate sales will increase 3.2%Y/Y in FY21, up slightly from 2.8%Y/Y growth forecast in the prior survey. Unsurprisingly, the manufacturing sector accounted for all of that revision, raising its forecast by 1.5ppts to 7.1%Y/Y). By contrast, firms in the non-manufacturing sector revised down their forecast fractionally to 1.3%Y/Y. Equally unsurprisingly, the biggest upward revisions were made by large manufacturers and especially exporters, with the latter now forecasting sales growth of 12.0%Y/Y – up from 8.5%Y/Y previously. While sales growth was revised up only modestly, growth in current profits was revised up materially to 15.0%Y/Y from 9.1%Y/Y previously. The largest upward revision came from the manufacturing sector, where forecast growth in profits was revised up to 14.0%Y/Y from just 4.8%Y/Y previously. Non-manufacturing firms forecast stronger growth of 15.9%Y/Y, but this follows a more than 30%Y/Y slump in profits in FY20. Given these figures, the overall profit margin for all firms is forecast to increase to 5.05% in FY21 from 4.53% in FY20 (but still down from 5.23% in FY19). The profit margin for manufacturers is forecast to rise to 6.80% while that for non-non-manufacturers is forecast to rise to 4.13%. Notably, these forecasts are comfortably above the long-term averages of 4.5% and 2.7% respectively.

The significantly improved outlook for profits has translated into only a slightly more positive outlook for capital spending in FY21, suggesting a degree of ongoing caution by firms. Following an 8.5%Y/Y decline in FY20, in aggregate firms forecast that total capex (including land investment) will increase 7.9%Y/Y in FY21 – a 0.8ppts upward revision from the prior survey. Unsurprisingly given their greater profitability and confidence about the outlook, manufacturers were forecast a 12.0%Y/Y lift in capex, whereas growth of just 5.5%Y/Y was forecast in the non-manufacturing sector. Amongst all large firms, capex is expected to increase 10.1%Y/Y, which was 0.5ppts firmer than the prior survey and 0.8ppts above the consensus forecast in Bloomberg’s survey. It is also worth recalling that forecasts early in the fiscal year are typically conservative. Assuming that vaccinations allow Japan’s recovery to strengthen into the end of the year, actual spending will likely prove firmer than forecast at present. For those not self-funding their investment, a net 18% of firms described the lending stance of financial institutions as “accommodative” for a fourth consecutive survey – favourable by historical standards, of course supported by government and BoJ subsidies. As far as employment is concerned, consistent with other labour market data, firms reported a slight increase in the shortage of labour. This continued to be felt most acutely in the non-manufacturing sector, and the labour market is forecast to tighten further in Q4.

Reflecting the underlying improvement in the business environment, a slightly larger proportion of large manufacturing exporters reported excess demand conditions in Q3 while the degree of excess supply in the domestic market declined somewhat, with firms less concerned about excess inventories in both cases. Large non-manufacturing firms reported than excess supply conditions were unchanged from Q2. Unfortunately for the BoJ, while this has contributed to a slight lift in near-term inflation pressure, the survey suggested that the Bank is no nearer to meeting its long-term goal of lifting inflation towards its 2% target. A net 37% of large manufacturing firms cited higher input prices in Q3, up 8ppts from the prior survey. While only a net 10% of firms reported that they had passed this onto their output prices – with the same proportion expecting to lift prices in Q4 – this was up 6ppt from the prior survey and the highest reading since Q308. Upward pressure on input prices was much less notable in the non-manufacturing, but the net 6% of large firms claiming to have lifted their output prices was up 4ppts from the prior survey and the highest reading since Q219. Even so, in aggregate firms forecast just a 0.7% increase in their output prices over the next 12 months and only a cumulative 1.9% increase over the entire five-year forecast horizon (albeit both up 0.2ppts from the prior survey). Regarding general consumer prices, and most disappointingly of all, firms expect inflation to be running at just 0.7%Y/Y one year ahead and just 1.1%Y/Y in five years’ time – the latter unchanged from the previous survey.

Japan’s unemployment rate steady at 2.8% in August as virus outbreak weakens employment and labour force equally; consumer confidence
Turning to the rest of today’s Japanese data, consistent with the marked softening reported in yesterday’s IP, retail sales and housing starts reports, today’s household employment survey indicated that the record level of virus cases and state of emergency conditions experienced in August had a negative impact on the labour market. Total employment declined an estimated 320k, thus erasing about half of the improvement seen over the previous two months following the previous spike in virus cases and associated restrictions in the spring. Given base effects associated with last year’s initial pandemic-driven slump in activity, employment was still up 0.3%Y/Y. However, the level of total employment in August was still 670k (1.1%) lower than in February 2020.

Despite the sharp fall in employment, the unemployment rate unexpectedly remained steady at 2.8%. This outcome was the result of a 330k decline in the size of the labour force, with the labour force participation rate declining 0.1ppts to 62.4%. However, the MHLW reported that the effective jobs-to-applicant ratio declined 0.1ppts to 1.14 in August – an outcome that was in line with expectation following the 14-month high recorded in July. Given the decline in employment during the month, the total number of job applicants increased 2.2%M/M – with the number of new applicants increasing 1.8%M/M – and was up 0.7%Y/Y. The number of outstanding job offers increased 1.2%M/M in August, with new job offers increasing 0.9%M/M. Thanks to base effects, the number of job offers was also up 9.7%Y/Y, but was still more than 11% lower than in February 2020.

In more encouraging news concerning the household sector, the Cabinet Office consumer confidence index increased 1.1pts to 37.8 in September – a pandemic high that is now just 0.6pts weaker than in February 2020 but still about 3pts below the longer term average. Respondents were more positive about employment in particular – the index more than erasing the decline reported in August. Meanwhile, strong growth in Japan’s stock prices – at least up until very recently – saw optimism about asset values increase to almost a three-year high.

Manufacturing PMI revised up slightly but message unchanged; vehicle sales slump
Today also brought the release of the final tabulation of the manufacturing PMI survey for September, which continued to point to a sector hampered by the virus and supply chain bottlenecks. The headline index was revised up 0.3pts to 51.5, but remained 1.2pts below the August reading and still at a seven-month low. Meanwhile, the detail of the survey remained less robust than that ‘expansionary’ headline reading would ordinarily suggest. The output index was unrevised at a 12-month low of 48.0 and the new orders index also remained contractionary despite a 0.6pts upward revision to 49.4. The new export orders index was revised down 0.2pts to 50.5, although this was at least still a 1.2pts improvement compared with August. Supply chain bottlenecks were in even greater evidence, with the supplier delivery index revised down 0.1pts to a more than 10-year low of 38.4. With regard to pricing, the input prices index was revised down 0.3pts to 68.0 while the output price index was unrevised at 54.9 – in both cases a 13-year high.

Finally, amidst cutbacks in production and restrictions on activity, the number of vehicle sales slumped 30.0%Y/Y in September, contrasting sharply with the small 4.4%Y/Y lift reported in August. Sales of cars declined 32.7%Y/Y to the lowest since August last year (and the worst September month this millennium). Sales of trucks declined 13.1%Y/Y while sales of buses fell 20.7%Y/Y.

Euro area inflation set to rise to 13-year high in September; German retail sales increase modestly in August; and French car registrations remain very weak
The main event in the euro area today will be the flash CPI estimate for September. National releases over recent days – including a rise in German inflation to above 4%Y/Y and a jump in Italy to 3%Y/Y – inevitably made clear that overall euro area inflation took another sizeable step up in September. Indeed, we expect the headline rate of inflation to rise 0.4ppt to a thirteen-year high of 3.4%Y/Y. Consistent with the message from the national releases, energy inflation is again set to be the strongest component. But non-energy industrial goods and services inflation are also likely to have increased further, admittedly in part reflecting the pandemic-associated low base a year ago. As such, we also expect euro area core inflation to have risen by 0.3ppt to 1.9%Y/Y, the highest since March 2008. Indeed, in Italy – the sole member state to publish such a figure at this stage – core inflation on the EU measure (excluding energy, food and tobacco) rose a steep 0.7ppt to 1.5%Y/Y.

This morning has already brought the latest German retail sales data, which came in slightly softer than expected. In particular, sales of goods were up just 1.1%M/M in August following the 4.5%M/M slump in July. This left them up just 0.4%Y/Y, but nevertheless still 6% higher than the pre-pandemic level. The softness reflected lower spending at food stores (-3.4%M/M), while sales at non-food stores rose a further 4.9%M/M to leave them more than 12% higher than the pre-pandemic level. Overall, retail sales were trending in the first two months of Q3 some 0.4% above the Q2 average. But the monthly profile for German sales is always volatile, which leaves plenty of uncertainty regarding overall sales growth in Q3. Given the relaxation of restrictions, consumption of some goods – particularly food – has likely been in part substituted by increasing spending on services over the summer period.

Meanwhile, national car registration figures – from France, Italy and Spain – today are likely to underscore the persistent challenges facing the industry amid ongoing supply bottlenecks including the semiconductor shortage. While the French figures reported that more cars were registered in September than in August, at just 132k it was the lowest outturn for a September since 1997, and down 20.5%Y/Y and 23% compared with September 2019. So, while the number of new cars sold in the first nine months of the year were up by 8%YTD/Y, they were still down by 23% in the equivalent period in 2019. Italian and Spanish figures due later are likely to follow a similar trend.

Ongoing challenges for the manufacturing sector more generally are likely to be highlighted by the final manufacturing PMIs for the euro area, Germany and France as well as the first indices from Italy and Spain. Indeed, the preliminary PMIs for September came in softer than expected, pointing to a further easing of recovery momentum as firms continue to face supply difficulties and price pressures – the euro area manufacturing output PMI fell 3.3pts on the month to 55.7, the lowest since January. The final UK manufacturing PMIs are also due.

A busy day for economic data in the US today, but debt ceiling and other fiscal worries may continue to dominate investors’ attention
At least as far as economic data is concerned, the focus of a busy end to the week in the US will be on developments in personal income, spending and the PCE deflator for August and the ISM manufacturing survey for September. As far as the former is concerned, Daiwa America’s Mike Moran expects modest growth in income (0.2%M/M) amidst improvement in the labour market, while strong growth in retail sales will likely counter virus-driven weakness in some services to drive moderate growth in spending (0.4%M/M). Given the soft CPI reading, Mike looks for only a slight 0.1%M/M lift in the core PCE deflator – the least since February – which should lower annual inflation by about 0.2ppts from last month’s three-decade high of 3.6%Y/Y. Meanwhile, Mike anticipates that robust conditions in the factory sector will leave the ISM’s manufacturing index close to last month’s reading of 59.9. Also released today are construction spending figures for August, auto sales for September and the final results of the University of Michigan’s consumer sentiment survey for September.

Of course, despite the busy economic diary, investors’ attention may well continue to be dominated by developments on Capitol Hill, with the debt ceiling clock ticking and disagreements continuing to hold up the advancement of the infrastructure and budget bills.

Aussie housing finance approvals fall in August as the lockdown weighs, but house prices continue to rise in September; manufacturing PMI confirms big rebound in September
Today’s Aussie economic diary brought news regarding mortgage financing and house prices, as well as the finalised manufacturing PMI survey for September.

First up, the value of new housing loan approvals declined 4.3%M/M in August. Approvals for investor loans increased a further 1.5%M/M and so were up 92.2%Y/Y. However, the value of approvals for owner-occupier loans fell 6.6%M/M, causing annual growth to slow to 33.5%Y/Y. For the latter category, approvals fell 9.6%M/M in New South Wales, 4.9%M/M in Victoria and 11%M/M in ACT – in each case reflecting the impact of lockdowns. By contrast, approvals increased around 2%M/M in both Queensland and South Australia.

Notwithstanding the virus outbreak, the CoreLogic house price index increased a further 1.5%M/M in September, thus matching the increase reported in August. Given that prices had declined in the same month a year earlier, annual home price inflation increased 2ppts to 19.5%Y/Y. Prices in Sydney grew 1.9%M/M to be up 23.6%Y/Y, while prices in Melbourne increased at a slightly less frenetic pace of 0.8%M/M and 15.0%Y/Y. With house prices rising significantly even through state lockdowns, there is clearly an increasing likelihood that APRA will introduce some form of macro-prudential constraint over coming months, as was mooted at last Friday’s Council of Financial Regulators meeting.

In other news, the manufacturing PMI survey for September largely confirmed the significant rebound in business conditions that was evident in the preliminary report. While the headline index was revised down 0.5pts to 56.8, it was still up a healthy 4.8pts from the August reading, notwithstanding ongoing curbs on activity. The output index was revised down 0.5pts to 52.8 (still up 7.1pts from August) and the new orders index was revised down 0.7pts to 52.3 (up 6.1pts from August). However, a 1.3pts downward revision to the new export orders index to 49.6 left it down 0.9pts for the month. With the lockdown leading to a lengthening of supplier delivery times to levels almost as bad as at the onset of the pandemic, both the input and output price indexes were confirmed to have increased to the highest levels in the survey’s five-year history. Indeed, the output price index was revised up 0.7pts to 63.5.

Kiwi consumer sentiment falls to 12-month low due to the virus outbreak; house prices keep on rising as buyers rush to beat RBNZ monetary and macro-prudential tightening
The ANZ-Roy Morgan consumer confidence index fell 4.7%M/M to a 12-month low of 104.5 in September, doubtless mostly reflecting the recent virus outbreak (albeit with restrictions now in the process of gradually easing as cases fall). Respondents were both less upbeat about the economic outlook and about current buying conditions for major household purchases, but were more upbeat about their near-term financial outlook and about the five-year ahead outlook for the economy.

In other Kiwi news, according to Corelogic, house prices increased a further 1.4%M/M in September, down slightly from 1.6%M/M in August. Even so, the annual pace of house price inflation increased to a new high of 27.8%Y/Y from 27.0%Y/Y previously. The further increase in prices despite some pandemic restrictions remaining in place to varying degrees across the country likely reflects a rush by buyers to beat a well-signalled tightening of the RBNZ’s monetary and macro-prudential settings. We would expect momentum to slow further over coming months as that tightening takes effect, with record levels of new building activity also pointing to a least a stabilisation of prices over the coming year.

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