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Industrial production in Japan is clearly losing momentum in early 2008 on the back of mainly slower export growth. Industrial production in February declined 1.2% m/m (Consensus: -2.0%m/m) after declining 2.2% m/m in January. This was underlined by the larger-than-expected decline in Manufacturing PMI to 49.5 in February. Although industrial activity has declined slightly in early 2008 we believe the near-term trend in industrial production will be flat. This view is based on the recent stabilisation in export volume growth (see chart 3), recovery in the production of construction goods as housing construction recovers (see chart 4) and finally that the inventories levels are comparatively low (see chart 5). This is supported by production plans indicating a slight reversal of the decline in industrial production in January and February (see chart 1). However, looking further, there are substantial risks of further contraction in industrial production as the global growth weakens further.

On the positive side, wage growth is clearly accelerating (see chart 6) in February. Total wage growth (including bonuses) increased 1.3%y/y in February and the January figure was revised to 1.6% y/y from 1.0%y/y (usually wage growth is revised in the second reading). Looking at real income growth, the pick-up in wage growth has largely offset the recent spike in inflation. The decline in real income growth in February is largely due to the weak February employment number (see chart 7). However, the employment numbers are very volatile. The stronger wage growth is the main reason private consumption has been resilient in recent months and if wage growth remains at the current level, real income growth could become significant in late 2008 when inflation is expected to decline.

Housing starts in February declined 5.0% y/y (consensus:-1.0% y/y). The fast recovery in housing starts since the slump in H2 07 seems to have lost some pace in February. However, housing construction will be a significant boost to growth in Q1 and Q2, although the February figure puts into question the size of the boost. However, construction activity in February is extremely weather-dependent and volatile. Hence it is too soon to draw a final conclusion on the pace of the housing recovery.

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