Japanese manufacturing sector is facing challenges as evidenced by the drop in PMI Manufacturing to 48.5 in September, down from August’s 49.6, the lowest level since February. Additionally, the average reading for Q3 stands at 49.3, a reduction from 50.0 in Q2.

According to key findings by S&P Global, the sector experienced faster falls in production and incoming new work. Alarmingly, backlogs declined at the strongest rate since April. A specific area of concern is the accelerated rate of input price inflation, reaching a four-month high, fueled by increasing costs of raw materials, oil, freight, and energy.

Usamah Bhatti at S&P Global Market Intelligence, conveyed a sombre view of the situation. He noted, “Depressed economic conditions domestically and globally weighed heavily on the sector, as both output and new orders were scaled back further. The decline in the latter was notably sharp, and the strongest seen for seven months.” The future outlook is also tinged with apprehension, as manufacturers signaled the most significant depletion in outstanding business in five months.

The inflationary aspect further complicates the picture. Bhatti highlighted, “The rate of input price inflation accelerated for the second month running to a four-month high.” Reports indicated that the sustained weakness of the yen is exacerbating the situation, elevating prices for inputs from abroad and placing an additional strain on firms.

Full Japan PMI Manufacturing release here.

The latest Tankan survey results in Q3 showcased strengthening corporate sentiment in Japan. Key indices and outlooks, along with projections for capital expenditure, underscore a robust business environment, as inflation expectations maintain steadiness.

Large Manufacturing Index showed notable gains from 5 to 9, marking its second consecutive quarter of growth. Concurrently, Large Non-Manufacturing Index advanced from 23 to 27, recording its best level since 1991 and marking its sixth straight quarter of improvement.

Further reflecting this positive trend, Large Manufacturing Outlook Index increased from 9 to 10, while its Large Non-Manufacturing Outlook saw an ascent from 20 to 21.

In terms of capital commitments, prominent firms revealed ambitious plans, with an anticipation to bolster capital expenditure by 13.6% for the fiscal year ending March 2024.

Regarding inflation, the corporate sector’s expectations remain consistent. Firms anticipate a price increase of 2.5% in the upcoming year, 2.2% over a three-year horizon, and 2.1% looking five years ahead. These figures mirror projections made in the prior quarter.

A crucial insight from a BOJ official noted that many large businesses have successfully offset higher costs by adjusting consumer prices, subsequently enhancing the overall business sentiment.

Further elevating the positive mood have been factors such as a resurgence in auto production and declining costs for raw materials. However, the official also acknowledged the challenges faced by some smaller enterprises, which have found it difficult to raise their prices.

Japan’s industrial output for August surprised by remaining steady month-on-month, outpacing expectations of a -0.8% mom decline. The seasonally adjusted index of production at factories and mines held its ground at 103.8, based on 2020 base of 100. Equally, index of industrial shipments ticked up by 0.1% to 103.2. In contrast, inventory index marked a -1.7% decrease to 104.6, registering the first decline in a quadrimestrial span.

The Ministry of Economy, Trade and Industry maintained a cautious tone on the economy’s direction, indicating that industrial output “fluctuated indecisively.” However, optimism is still present; the ministry’s poll suggests that manufacturers anticipate a 5.8% uptick in production for September, followed by a 3.8% rise in October.

On the retail front, August saw a 7.0% yoy surge in retail sales, surpassing anticipated 6.4% yoy. This momentum builds upon the month’s modest growth of 0.1% mom.

The labor market remained resilient, with the unemployment rate steadfast at 2.7%. The job offers-to-applicants ratio for August persisted at 1.29, unchanged from July.

Inflationary pressures seem to be cooling down. Tokyo’s core CPI for September, excluding food, dipped more than forecasted, from 2.8% yoy to 2.5% yoy , as opposed to the predicted 2.6% yoy. Headline CPI decreased slightly from 2.9% yoy to 2.8% yoy. Additionally, core-core CPI, which excludes both food and energy, retreated from 4.0% yoy to 3.8% yoy.