【NEWS RELEASE】
December 9, 2019
SMBC Nikko Securities Inc.

Quarterly Economy Outlook for FY 2019-2020 (Update)

December 9, 2019 (JST), “SMBC NIKKO Japan Economic Outlook for FY 2019-2020” has beenreleased, responding to the second preliminary of GDP (July-September 2019 period).

Japan Economy to Bottom as Risks Gradually Fade
 Real GDP: +0.9% in FY19 and +1.1% in FY20
 Nominal GDP: +1.2% in FY19 and +1.3% in FY20

SummaryGDP growth outlook
We revise our outlook to reflect the 2nd preliminary Jul-Sep 2019 GDP data. We forecast real
GDP growth of +0.9% YoY in FY19 and +1.1% in FY20, adding 0.1ppt to each of our previous
growth estimates as of 20 Nov, FY19 for technical reasons (government cut to annual FY18
data) and FY20 to factor in additional economic measures by the government.



Current state of the economy
Jul-Sep 2019 real GDP growth (annualized basis) was +1.8% QoQ, low compared to +4.0%
before the last consumption tax increase in Apr 2014. The drop in the risk of a drop-off in theeconomy is positive though as 1) the pre-hike rush was fairly small and 2) inventories havecome down.
Japan's economy has been correcting for a year on export decline. The lower exports owed not
to US-China trade friction but to the correcting global chip cycle, in turn fueled by fallingdemand for durable IT goods (mobile phones, servers). That said, IT demand has since turned
up and the chip cycle has recovered since March this year. We therefore expect Japan's
economic cycle to bottom very soon.

This material is an English translation of Japanese announcement made on December 9, 2019. Although the company intended tofaithfully translate the Japanese document into English, the accuracy and correctness of this translation are not guaranteed and thus you
are encouraged to refer to the original Japanese document.



Outlook for the economy
As points of interest, we highlight the US economy and US-China trade tension as external
factors, and the probability of a pullback by the domestic economy after the hike inconsumption tax.
The US economy is the world's largest economy running a current account deficit, and it tends
to drive the global economy. Some suggest the current slowing here could turn into recession
because of yield inversion and other factors. However, there is no theory that says inverted
yields cause recession. That is because there is no way for inverted market rates to inflict a
recession so long as investment spreads in the real economy are still positive. Spreads in the
US are still positive, so a recession is unlikely, in our view. The US economic slowdown merelyreflects reduced investment demand after the rate increase last year (investment demand isvery rate-sensitive). However, rates have come down a lot in 2019 so far, so we expect
investment demand to rebound very soon. Manufacturing indices have in fact started turningup.
US-China trade tension should ease as talks become more conciliatory. China growth isalready slowing and it could take another hit if more foreign-owned firms (account for 40% of
exports from China) relocate to avoid the steep US tariffs. Meanwhile, Trump wants China to
buy more US agricultural produce to improve his chances of reelection. Thus, China wants the
US to withdraw tariffs and the US wants China to buy $50bn in produce. We think this looks likea reasonable deal and worth the compromise for both. While the structural issues with China
may have to wait, it would make sense for Trump to restart those negotiations after the election,
especially as the Chinese economy is likely to weaken with time.
Consumption tax hikes in Japan have never caused economic recession. That is because mostconsumer goods are actually imported, so their demand does not affect domestic production.
The pre-hike demand rush this time was fairly small, making a post-hike pullback even lesslikely. The real concern is prices. Higher prices generally reduce purchasing power and thus
consumption, but post-hike consumer prices this time were up only +0.5% YoY, less than the
3.4% rise last time. Purchasing power has actually increased thanks to the government's
scheme for cashless purchases (5% point reward) and allowance for post-hike promotions byretailers. We thus do not expect much of a post-hike pullback in consumption this time.
The most important factors for the economy are exports and capex (which both involve
domestic production). We expect exports to recover and note that capex plans by firms are
solid. We therefore expect the Japanese economy to begin recovering from the Jan-Mar 2020
quarter.



Risk factors
A sharp rise in US long rates is the main risk to the Japanese economy. Given the "excess
demand" in the US, long rates could rise quickly if recovery were to fuel expectations foroverheating and inflation. The key is whether the Fed stays ahead of the curve.

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Quarterly forecasts for Japanese economy《Actual》← →《Forecasts》
2018《A》← →《F》 (Unit:%)

2019

2021

2020

FY18

FY19

FY20

Comparison w ith
previous forecasts(as at 20 Nov 2019)

1Q

2Q

3Q

4Q

1Q

2Q

3Q

4Q

1Q

2Q

3Q

4Q

1Q

Real GDP growth (QoQ)

-0.5

0.5

-0.6

0.3

0.6

0.5

0.4

-1.1

0.4

0.5

0.6

0.1

0.6

(annual rate)
Domestic demand, contribution (QoQ)
Private consumption (QoQ)
Capex (QoQ)
Residential investment (QoQ)
Public investment (QoQ)
Foreign demand, contribution (QoQ)
Exports (QoQ)
Imports (QoQ)
Nominal GDP growth (QoQ)
Industrial production (QoQ)
Trade balance (Y tn, SAAR)

-1.9
-0.5
-0.3
-2.7
-0.1
0.2
0.1
0.8
0.6
-0.5
-0.9
0.1

2.1
0.5
0.3
-1.8
2.3
2.5
0.0
0.7
0.8
0.3
0.8
1.6

-2.4
-0.5
-0.2
0.4
-3.4
-2.4
-0.1
-1.8
-1.3
-0.6
-0.7
-1.7

1.0
0.7
0.2
1.1
3.0
-0.7
-0.4
1.2
3.8
0.0
1.3
-4.0

2.6
0.3
0.2
1.1
-0.2
2.0
0.3
-2.1
-4.1
1.3
-2.5
-2.0

2.0
0.8
0.6
0.5
0.9
1.6
-0.3
0.5
2.1
0.6
0.7
-2.8

1.8
0.6
0.5
1.6
1.8
0.9
-0.2
-0.6
0.3
0.6
-0.5
-1.1

-4.1
-1.0
-1.2
-2.5
-1.5
-0.7
-0.1
-0.4
0.0
-1.3
0.5
-2.2

1.8
0.5
0.2
-1.5
0.5
2.4
0.0
0.2
0.4
0.1
0.2
-1.4

2.2
0.6
0.3
-0.5
0.5
3.5
0.0
0.5
0.6
0.8
0.5
-1.4

2.3
0.5
0.5
0.0
0.8
1.2
0.0
0.7
0.6
0.8
0.5
-1.3

0.5
0.1
-0.1
0.5
0.5
-1.5
0.0
0.8
0.6
0.4
0.7
-0.6

2.3
0.5
0.3
1.0
0.5
2.5
0.0
0.8
0.6
0.5
0.7
0.1

0.3
0.3
0.1
-4.9
1.7
0.6
0.0
1.6
2.2
0.1
0.2
-1.5

0.9
0.9
0.7
1.5
2.1
3.3
0.0
-1.5
0.8
1.2
-0.9
-1.9

1.1
1.1
0.7
-2.0
1.5
6.5
0.0
1.9
1.5
1.3
1.7
-0.8

Unemployment rate (%)

2.5

2.4

2.4

2.4

2.4

2.4

2.3

2.4

2.4

2.3

2.3

2.3

2.3

2.4

2.4

2.3

0.0

0.0

Core CPI (YoY)

0.9

0.8

0.9

0.9

0.8

0.8

0.5

0.4

0.4

0.3

0.6

0.6

0.7

0.8

0.5

0.5

-0.1

-0.3

(Ex effects of consumption tax hike)

FY19

FY20

0.1
0.1
0.1
0.1
0.2
-0.5
0.0
-0.3
0.4
0.1
-1.1
-0.5

0.1
0.1
-0.1
-0.1
-0.6
3.3
0.0
0.4
0.1
0.0
-0.4
-0.4

0.9

0.8

0.9

0.9

0.8

0.8

0.5

-0.5

-0.5

-0.6

-0.4

0.6

0.7

0.8

0.0

0.1

-0.2

-0.2

IOER (Eop)YCC 10y JGB yields target (Eop)

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

-0.1
0.0

0.0

0.0

0.0

0.0

US real GDP growth (QoQ annualized)

2.5

3.5

2.9

1.1

3.1

2.0

2.1

2.2

2.1

2.1

2.1

2.1

2.1

2.7

2.1

2.1

0.0

0.0

US unemployment rate (%)

4.1

3.9

3.8

3.8

3.9

3.6

3.6

3.6

3.6

3.5

3.5

3.4

3.4

3.9

3.6

3.4

0.0

0.0

US core CPI (YoY)

1.9

2.2

2.2

2.2

2.1

2.1

2.3

2.3

2.2

2.3

2.3

2.3

2.3

2.2

2.2

2.3

0.0

0.0

2.375 1.625 1.875

-0.30

-0.20

Fed rate (Eop)1.625 1.875 2.125 2.375 2.375 2.375 1.875 1.625 1.625 1.875 1.875 1.875 1.875

Assumptions: Forex rate (annual mean): JPY108.8/USD in FY19 and JPY113.3/USD in FY20; Crude oil price (WTI annual mean): USD57.4/bbl
in FY19 and USD58.5/bbl in FY20.
Notes: 1) US GDP on a calendar basis, US unemployment rate is the average for the period, and FF rate at end of year. 2) Actual figures from
Cabinet Office (CAO), MIC, METI, BOJ. Forecasts by SMBC NIKKO.
Sources: CAO; Ministry of Economy, Trade and Industry (METI); Ministry of Internal Affairs and Communications (MIC); Bank of Japan(BOJ); SMBC NIKKO forecasts

Outlook for Real GDP growth(YoY % chg, contribution, ppt)

5

Our outlook

4
3

1.9

2

0.9

1.1

0.3

1
0
-1

Consumption
tax hike(8% -> 10%)

-2
-3
2012

2013

2014

2015

2016

Private consumption
Capex
Government expenditure
Exports

2017

2018

2019

2020

Private residential investment
Private inventory
Imports
Real GDP

Sources: CAO, SMBC NIKKO forecasts

3

(FY)

APPENDIX
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