October 1, 2014, 12:00 JST

Tankan shows a moderate dis-inflation trend

Tankan results were disappointing. The business condition DI deteriorated for most of business categories except for large manufacturers. Large non-manufacturers’ business condition deteriorated from 19 to 13, small manufacturers’ from 1 to -1, small non-manufacturers’ from 2 to 0. The results illustrate that the after a large deterioration between March to June, the profitability of the majority of Japanese businesses continued to deteriorate in September.

 Source: BoJ, JMA.

 Source: BoJ, JMA.

Some may argue that the yen weakness is hurting the profitability of domestic-economy-exposed industries, SMEs and non-manufacturers. However, sub-indicators of Tankan show that it is not the rise in input costs that are hurting the businesses. DI for input costs (“rise” minus “fall”) for non-manufacturers in fact improved between June and September for both large and small non-manufacturers. Instead, it is the declines in output prices that are hurting their profitability. In short, it is the deflation that is hurting corporate profitability.  

 Source: BoJ, JMA.

Elsewhere, there were some positive elements in the Tankan. Japanese businesses raised their capital expenditure plan for their fiscal year 2014, from up 1.7% in the June survey to up 4.2% in the September survey. One drawback to this favorable news is that actions do not seem to accompany their words. Leading indicators for capital expenditure such as machinery orders has not really shown any acceleration so far.

The overall message from the Tankan seems to be that the economy is slowing and there is a glimpse of a return of deflation. In our view, that calls for an additional easing from the BoJ. The BoJ has done well to raise the underlying CPI inflation trend from negative to around 1%, but it is still a half way toward their goal of 2%. If the bank is seriously committed to achieving its goal, in FY 2015 if we believe their outlook, the bank should not tolerate the dis-inflation we are seeing in Tankan, as well as in the recent CPI reading.