Economy in Brief

In this week's newsletter, we examine the Bank of Japan's (BoJ) upcoming decision scheduled for Wednesday. Recent shifts in market expectations suggest a marked increase in the likelihood of a BoJ rate hike, as priced in by various financial markets. We have observed that while consumer inflation has remained relatively stable for much of the year, there were some upticks in core inflation in May and June. Additionally, price pressures on the producer side have continued to intensify. This suggests that the BoJ’s “virtuous cycle” between wages and prices may be strengthening. This is particularly evident in the increased inflation among service producers with high labor cost ratios. However, it is important to note that these producer price increases have also been influenced by rising costs in other areas, such as transportation. Lastly, we examine the potential outcomes if the BoJ's monetary policy normalization campaign begins to quicken and leads to a stronger yen. We explore various dimensions of this scenario, focusing particularly on how a stronger yen might affect export growth and tourism.

In reality, it's still uncertain whether the BoJ will announce a rate hike this Wednesday, though market expectations are increasingly leaning towards a reduction in Japanese Government Bond (JGB) purchases. One key area of interest is how the BoJ plans to reduce its substantial JGB holdings and the subsequent impact on financial market liquidity and yields. While a “virtuous cycle” between wages and prices seems to be strengthening, evidence of such a cycle between wages and consumer spending is lacking. This is possibly because real wages have continued to decline.

Market expectations Recently, there have been marked shifts in market expectations regarding further monetary policy tightening by the Bank of Japan (BoJ). While an additional rate hike by the BoJ, following its March policy tightening, has long been anticipated, market expectations for this move have only recently intensified. This shift in expectations is evident in Japan’s financial markets, as illustrated in Chart 1. Specifically, the yen has experienced a significant rally in anticipation of an imminent BoJ rate hike. Moreover, Japan’s near-term overnight indexed swap (OIS) rates, including the 1-week OIS vs. TONAR rate, have surged, reflecting increased expectations for a rate hike within the coming week. These developments suggest heightened anticipation of the BoJ's upcoming decision, which is expected to be announced on Wednesday.

The INSEE manufacturing survey and services survey for France both took a considerable step lower in July in the wake of some turbulent French elections and on the doorstep of France hosting the Summer Olympics. As I write this, there are reports of acts of sabotage on French railway lines intended to disrupt the Olympics. None of those actions is reflected in the data presented here today. But they may emerge in subsequent reports. The monthly drops reported here are the seventh largest for services back to 2000 and for manufacturing the ninth largest month-to-month drop.

Industry climate in France fell to 95.5 in July from 98.9 in June. Climate has a ranking at its 16.7 percentile which means it has been lower less than 17% of the time.

Manufacturing Manufacturing production expectations fell sharply to a reading of -18 in July from a reading of -11.6 in June. The standing for the reading is in its 19.8 percentile, implying that expectations have been lower less than 20% of the time.

The recent trend of production also slipped to -5.4 in July from -2 in June; survey respondents reported that their own industries personal likely trend slipped to -4.9 in July from +1.8 in June. The overall recent trend assessment for industry has a 15-percentile standing, while the personal likely trend standing has a 7.3 percentile standing; both are still extremely low readings.

Overall orders and demand slipped in July to -19.9 from-18.4 in June. That series has a standing at its 35.6 percentile. Foreign orders and demand slipped by more, dropping to -18.5 in July from a reading of -8.6 in June; that series has a 27.1 percentile standing.

Inventory levels rose in July to 8.8 from 8.4 in June and have a 44.5 percentile standing, closer to their historic median; the median occurs at a reading of 50%.

Prices show some lift in July with the own likely price trend rising to +7.0 from +3.7 in June and logging a 62.8 percentile standing, above its historic median. The manufacturing price level indicator rose to +6.9 in July from +2.9 in June, logging or below median 42-percentile standing.

The far-right hand column shows that most of these survey entries are lower than they were in January 2020 before COVID struck. Inventories are slight exception, and prices are an exception as well, showing more pressure now than there had been prior to COVID.

The Belgian National Bank index in July weakened to -12.3 from -11.1 in June. The -12.3 reading is the weakest since it was -12.8 in February. The index has not weakened greatly; however, instead it has languished in the -10 to -11 region. July stepped down to the -12 region, indicating ongoing morass for Belgian industry. The three-month change in the index worsened by 0.4 points; however, over six months it improved by 4.1 points, but over 12 months it improved by only 2.5 points. There is some improvement in the history, but the improvement over six months is stronger than over 12 months, a good sign except that over three months some of that gain has been given back. This leaves the trend in an uncertain situation.

The standing for the index is in its 14.3 percentile which leaves it very low in its queue of historic readings. Manufacturing alone has a 17-percentile standing, slightly better than for total industry, but still not too different from the total industry mark that is poor.

Manufacturing worsened in July to -14.9 from -13.1 in June. The production trend for manufacturing, however, has improved slightly, rising from -3 in May to -2 in June to -1 in July. The July reading is its best since a rogue improvement brought the index to zero in March. Setting that aside, this is the strongest reading since June 2023.

The domestic order trend, on the other hand, is weak and somewhat worrisome. In May the reading was -7; in June it fell sharply to -19 and in July it stayed in that region with the -20 reading. The domestic portion of demand for Belgian industry has weakened significantly in the last two months and stayed at that weaker posture.

Foreign demand during this period weakened as well. The foreign order trend in May was 0 that weekend -5 in June and improved only slightly to -4 in July.

Price trends show negative readings in May and June that turned to a positive reading of plus one in July.