Japan business mood improves as auto woes ease but inflation ...

The business sentiment index for major Japanese manufacturers rose two points to 13 in June, marking the first improvement in two quarters as the impact of an auto safety data-rigging scandal eased, but rising costs cast a shadow over the outlook, Bank of Japan data showed Monday.

The index among nonmanufacturers, including service providers such as hotel operators, worsened to 33 in June from 34, the first fall in 16 quarters after a strong run of improvement mainly driven by a revival of inbound tourism. Many companies now cite concerns about inflation and labor shortages, according to the Tankan quarterly survey.

The Tankan index represents the percentage of companies reporting favorable conditions minus the percentage reporting unfavorable ones. The average market forecast for the index of large manufacturers, compiled by Kyodo News, was for an improvement to 12.

The data highlighted a divergence in how well companies and sectors are coping with rising energy and raw material costs, further inflated by a weak yen.

Sentiment improved in sectors dealing with raw materials that have been able to pass on costs, such as pulp and paper, but the food and steel sectors became less optimistic due to inflation concerns.

"Business sentiment is good overall," said Yoshimasa Maruyama, chief economist at SMBC Nikko Securities Inc.

"The question is not if but when the impact of the auto scandal will end for manufacturers. Many firms have been able to pass on costs by raising prices, which is a positive development, but retailers are struggling with weak consumer demand," he said.

Daihatsu Motor Co. suspended production after admitting in December that it had rigged safety data, fully resuming output in May. The fraud was followed by revelations of improper vehicle certification tests at Toyota Motor Corp. and Mazda Motor Corp., among others, leading to the halt of shipments of some models.

While the mood was still positive among automakers the index fell by one point to 12.

Sentiment among retailers, however, worsened to 19, down 12 points, with Japanese households yet to feel the impact of real wage growth due to inflation.

The yen's persistent depreciation, particularly against the U.S dollar, means resource-poor Japan will continue to see higher import costs accelerating inflation.

A weak yen, however, is a boon to exporters because it boosts their overseas profits when repatriated. It also makes traveling to and shopping in Japan cheaper for foreign tourists.

Hotel and restaurant operators, and those providing face-to-face services, remained optimistic, despite the sector index falling slightly.

Japanese companies expect the dollar to trade at 144.77 yen in fiscal 2024, sharply higher from 141.42 yen in the previous survey in March. The dollar rose above 161 yen at one point last week, amid heightened market vigilance about possible intervention by Japanese authorities to slow the yen's sharp decline.

The Japanese economy contracted an annualized real 2.9 percent in the January-March quarter, rather than declining 1.8 percent, according to revised data released Monday, underscoring soft domestic demand.

Still, Japanese companies are planning to ramp up capital spending by 8.4 percent in the year to next March, the BOJ survey showed, after a 10.6 percent increase in fiscal 2023. The figure covers all sectors and includes small and medium-sized firms.

Looking ahead, manufacturers were more optimistic with sentiment improving from 13 to 14, while nonmanufacturers expect it to worsen by 6 points to 27.

The latest data will be among the materials assessed at the BOJ's policy-setting meeting in late July.

"Rising prices and the weaker yen may set the stage for the BOJ to move but it also needs to take into account weak consumption, as seen in the declining sentiment among retailors for instance," SMBC Nikko's Maruyama said.

Markets are waiting to see by how much the Japanese central bank will trim its purchases of Japanese government bonds, with its board members recently touching on the need to raise interest rates again if the yen's weakness drives up inflation.

The BOJ surveyed 9,076 companies, of which 99.2 percent responded between May 29 and Friday.

Related coverage:

Japan big makers' sentiment worsens for 1st time in 4 quarters: BOJ

Yen hits fresh 37-year low at 161 vs. dollar amid intervention risk

Government keeps economic view in June, warns of higher overseas rates