Mixed picture for the economy

The Bank of Japan’s latest Tankan quarterly survey gives a mixed picture of business confidence. Large manufacturers appear more optimistic about the course of the Japanese economy in the months ahead, as the negative impact from the three-percentage-point hike in the consumption tax hike in April seems limited. Manufacturers plan sharp increases in capital investments for this year.

However, the survey and other economic data point to some worrisome signs that growth could be hampered. The government and the central bank need to keep close tabs on the economy and take flexible action to prevent the uptrend from being derailed.

The Tankan survey for June showed confidence among large firms — in both manufacturing and nonmanufacturing sectors — declined for the first time in six quarters, reflecting the fallback in demand that had spiked ahead of the April tax hike. But the margin of the decline was smaller than was forecast in the previous survey in March, and large manufacturers expect business conditions three months ahead to improve, mirroring the view that the fall in demand after the tax hike would only be temporary.

Also becoming clearer is businesses’ aggressive position on capital investments. Large firms plan to increase their investments for fiscal 2014 by 7.4 percent from the previous year — compared with a 0.1 percent rise forecast in the March survey. Large manufacturers plan a 12.7 percent increase in capital investments — the sharpest rise since fiscal 2006.

These may point to a fairly positive outlook for the Japanese economy — that the fallback in demand from the April tax hike will be smaller than feared, and that the economy will quickly get back on the path of recovery. Private-sector economists and think tanks generally forecast growth in the nation’s gross domestic product in the July-September period after a sharp decline in the April-June quarter.

Still, recent indicators point to more mixed signs in the economy. The unemployment rate of 3.5 percent in May was the lowest since 1997, and the ratio of job offers to employment seekers rose to 1.09 — the highest level in nearly 22 years. It is hoped that this tightening market for labor will push up wages and consumer spending.

At the same time, labor shortages are fast becoming a drag on the economy as the difficulty in securing enough manpower is delaying construction projects and housing starts, making it difficult to meet increasing demand.

According to the BOJ survey, companies that face a manpower shortage outnumbered those with surplus labor, and they expect the gap to widen in the coming months. The manpower shortage is felt as more severe among small and medium-size businesses, which are more cautious than larger firms in their business outlook.

Consumer spending, meanwhile, has dived sharply. Spending per household adjusted for inflation in May fell 8 percent from a year before — the sharpest decline since March 2011, when the nation was hit by the Great East Japan Earthquake. The fall was steeper than the 2.9 percent decline in the same month of 1989, when the consumption tax was first introduced, and the 2.1 percent dip in May 1997, when the tax rate was increased to 5 percent from 3 percent.

While government officials say the decline is within the range of expectations, it needs to be noted that introduction of the consumption tax in 1989 and the 1997 rate hike in 1997 were coupled with cuts in other taxes such as income tax. The latest tax hike resulted in a net income decline for households because there were no accompanying tax cuts.

On the other hand, consumer prices in May rose 3.4 percent — reflecting the tax hike and rising energy prices — for the 12th consecutive monthly increase and the sharpest rise in 32 years. The risk remains that the slump in consumer spending — which holds the key to sustained growth along with corporate investments — may not be just temporary.

The government needs to keep close watch as it makes policy decisions in the months ahead, including whether to go ahead with the second phase of the consumption tax hike in October 2015, which would raise it to 10 percent.