Confidence among Japan’s largest manufacturers rose to an eight-year high in the third quarter, but weakening sentiment among service companies produced a mixed economic signal that reduced pressure on the Bank of Japan to raise interest rates again immediately.
The Bank of Japan’s closely watched Tankan survey showed the headline index for large manufacturers rising to +24 in September from +22 in June.
That was its strongest reading since March 2018, although slightly below the +25 median forecast among economists.
Large non-manufacturers moved in the opposite direction.
Their sentiment index declined to +35 from +37, the first deterioration in five quarters and below the market forecast of +36.
Manufacturers benefited from strong semiconductor and artificial-intelligence-related demand as well as easing supply constraints.
Service companies faced a more difficult environment. Higher raw-material and labor expenses squeezed profitability while consumers resisted price increases.
Corporate inflation expectations remained elevated but did not accelerate. Companies expect inflation of approximately 2.6% three years from now.
The mixed results are important because the BOJ raised its policy rate to 1.25% in September, the highest level in 31 years, as officials responded to persistent inflation pressure.
Markets had been considering the possibility of another increase as soon as October.
Thursday’s Tankan did little to eliminate expectations for further tightening eventually, but it weakened the argument for consecutive monthly rate increases.
The yen declined against the U.S. dollar as expectations for an October move receded.
Both large manufacturers and non-manufacturers expect conditions to deteriorate during the next three months, reflecting uncertainty surrounding elevated energy costs and the Middle East conflict.
The BOJ therefore faces a familiar policy tradeoff.
Inflation and manufacturing strength support additional normalization, while weaker domestic demand and declining service-sector confidence argue for patience.
The October BOJ meeting will determine whether policymakers view September’s rate increase as sufficient for now or believe inflation risks require another move.
