Week in FX Asia – Japan GDP Drop to Force BOJ’s Hand

• Japanese GDP contracted –1.7% in Q2
• Manufacturing indicators missed expectations in July
• BOJ Bought ETFs to Boost Nikkei and is considering a cut to growth forecast

The full effect of the Japanese sales tax hike in April is not known, but one of its first symptoms has hit the second quarter’s GDP figures. The Japanese economy contracted in the second quarter by 1.7%, its first decline since 2012. This marks the biggest economic contraction since the March 2011 earthquake. The Bank of Japan has been steadfast that the impact of the sales tax is temporary. GDP rose an annualized 6.1% in the first quarter as consumers tried to avoid the upcoming sales tax. The annual drop in Q2 was 6.8% after it came into effect and exports have not made up for the difference.

The yen continues to weaken given geopolitics has subsided this week. The JPY was higher after safe haven flowed poured in to the currency. Now good economic expectations about the US economy and disappointing numbers in Japan continue to drive the Yen to the 103 level. Fundamentally it is on track, but geopolitics cannot be dismissed as there are various events around the world that could boost JPY demand.

July proved to be a rough month for Japanese manufacturing events, as three manufacturing indicators missed their estimates. On Thursday, Core Machinery Orders bounced back from a decline with a gain of 8.8%, but this was way off the forecast of 15.5%. Earlier in the week, Tertiary Industry Activity came in at –0.1%, short of the estimate of a 0.2% gain. Revised Industrial Production dropped 3.4% last month, its steepest fall since October 2012. The weak manufacturing numbers are another indication of weakness in the Japanese economy, which could drag down the yen.

The Bank of Japan might cut its growth forecast for the fiscal year for the fourth time this year as exports continue to lift and internal demand has been weakened by the sales tax. The downward revision will be another pressure point for Governor Kuroda as the market expect the BOJ to follow through on the record setting stimulus started in 2013. Back then the central bank’s actions were seen as a decisive factor in Abenomics hope of success. Now it seems Kuroda must do a repeat act if not in 2014, for sure in 2015 to get growth back on track.

Next Week For Asia:

The agenda for next week will continue to be dictated by geopolitical events. Th e Ukraine-Russia situation continues to complicate itself with the arrival of aid trucks that have been inspected but might signal more intervention from Moscow on Ukrainian territory. Iraq and Gaza will continue to be on the radar in the Middle East even as they have not affected global supplies of commodities. The escalating riots in Ferguson, Missouri have had a negative effect on US government institutions.

Western central banks have the spotlight as the Bank of England and the Federal Reserve in the US will release the minutes from their respective monetary policy meetings. Traders will be on the lookout to the voter split as the two central banks are competing for the first rate hike from a major economy. The Jackson Hole economic symposium next week can throw some insight into the Fed’s thinking regarding an upcoming end to QE and how soon rates could be hiked in the US.

In Asia the focus will on Japan. After a disappointing GDP economic indicators will be looked at for further signs of decline. Japanese Machine Tool Orders will be released on Tuesday. The same day the Reserve Bank of Australia Governor Glenn Stevens delivers a speech. The Chinese HSBC Manufacturing PMI will be published on Thursday.

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