TOKYO (AFX-ASIA) - The Bank of Japan said it has "downgraded" its economic assessment further in its April report, marking the second straight month of downgrade, saying that the economy has entered an adjustment phase in line with the sluggish corporate sector activity. "Adjustments in economic activities have been underway, as production is declining, reflecting a fall in exports," the BoJ said in its April economic report.
This compares with the analysis in the March report that "the recovery in Japan's economy has recently come to a pause, reflecting a decrease in exports."
The bank highlighted a further weakening of industrial output activity amid a growing need for inventory adjustments and a slowdown in the growth of corporate earnings.
"Industrial output is declining more sharply, and excessive inventories of electronics parts and some materials are building up," the bank said, adding that as a result, "the pace of improvement in corporate profits seem to be slowing significantly."
The bank also stressed that business sentiment is "worsening, particularly in manufacturing industries," after the quarterly Tankan survey published earlier this month showed that the diffusion index (DI) of business sentiment for large manufacturers fell to minus 5 in the March report from plus 10 in the December survey.
The BoJ noted the emerging negative impact of a slowdown in corporate activities on the household sector.
"Income conditions of households have not deteriorated but the effects of the decline in production are starting to be observed in new job offers and overtime working hours," the bank said.
The central bank also warned of the sustained sluggish economic activity ahead, citing downside risk in net exports and industrial output, as well as on corporate profits and capital spending.
"Overall, the adjustments are expected to continue for some time, mainly in production," the bank said, adding that "attention should still be paid to the possibility of a prolonged deceleration of overseas economies and risks of a negative impact on the economy induced by developments in foreign and domestic capital markets through corporate and household confidence."
The central bank said net exports are likely to maintain a falling trend, while the need for inventory adjustment is strengthening, "although not to a large extent."
In addition, the bank noted that "leading indicators suggest that business fixed investment is likely to peak out gradually.
"Thus, industrial output is expected to follow a declining trend ... (and) the increase in corporate profits is likely to be subdued." The bank said that if this happens, "the recoveries in household incomes and consumption are projected to be sluggish."
The central bank also warned of deflationary pressure building up in the latest report, adding that "overall, prices are expected to be weak for the time being," even if the yen's fall were to alleviate the weakness in prices.
"Moreover, given the high degree of uncertainty regarding future economic developments, the possibility that weak demand will intensify downward pressures on prices warrants careful monitoring."
The bank noted that while the Japanese economy will be exposed to stronger downside risk, it sees some relief from an expected pick-up in the U.S. economy and in the depreciation of the yen.
"It is generally thought that overseas economies, particularly the U.S., will follow a gradual recovery trend from the latter half of 2001," the bank said.
"In this case, together with the effects from the depreciation of the yen, exports are expected to underpin the economy once again." While warning about the prospects for individual economic components, the central bank noted some sectors maintain a solid performance.
"Business fixed investment is increasing .... public investment is starting an upturn," the BoJ said.
The central bank also said public investment is most likely to maintain a rising trend for the time being.
Meantime, the central bank forecast Japan's money supply, measured by M2+CDs, will show a year-on-year rise of 2.0-2.9 pct in the three months to June, bolstered by the inflow of funds from postal savings accounts.