bank of japan ’ s monthly report of recent economic and financial developments bank of japan, communication, 21 / 1 / 99. the bank ’ s view the economic deterioration in japan is easing gradually mainly due to the increase in public investment. with respect to final demand, business fixed investment has been declining significantly, and housing investment continues to be sluggish. private consumption, as a whole, remains stagnant. meanwhile, net exports ( exports minus imports ) are basically increasing at a moderate pace, and public investment has turned to follow a distinct upward trend. reflecting this development of final demand and the progress in inventory adjustments, the decline in production is slowing. corporate profits continue to worsen. employment and household income conditions have deteriorated as the unemployment rate has reached a new historical high, the ratio of job offers to applications remains at its lowest ever level, and winter bonuses have decreased significantly. financial conditions are improving with the effects of the policy measures taken by the government and the bank. nonetheless, firms apparently cannot eliminate their anxiety about the availability of funds toward the end of fiscal 1998. consequently, corporate and household sentiment remains cautious, and a recovery has not yet been observed in private demand. as for future developments, the increase in public investment is likely to underpin the economy toward the first half of fiscal 1999 with the implementation of the government ’ s economic measures. furthermore, the bank ’ s monetary and financial measures and the government ’ s measures to alleviate the credit crunch will remain in effect. nevertheless, an immediate selfsustained recovery in private demand is hardly expected since corporate profits and household income are deteriorating and the constraints from corporate finance are likely to persist for some time due to the cautious lending attitudes of private banks. moreover, attention should be paid to the effects of the continued appreciation of the yen since autumn 1998, and to the uncertainty in financial and economic developments abroad. to lead japan ’ s economy into a steady recovery, it is important to prepare an environment where firms and households can regain confidence in japan ’ s economic future by, for instance, promptly restoring the stability of the financial system. with regard to prices, reflecting the large output gap, domestic wholesale prices are on a downtrend, and corporate service prices are weakening. consumer prices have increased above the previous year ’ s level due to the rise in prices of perishables. excluding this effect, however, consumer prices basically continue to be weak. as for the outlook, the economic deterioration is likely to continue easing mainly due to

trade surplus as part of cyclical dynamics, and thus a decrease of the current account surplus. however, aside from cyclical components, underlying current account trends were little changed. the attempt to make further adjustments through macroeconomic policies, especially through prolonged accommodative fiscal and monetary policy was unsuccessful. it rather had the detrimental side - effect of being one of the factors that fueled the expansion of the bubble and hence led afterwards to the serious predicament. incidentally, depending on the structure of the current account balance, surpluses and deficits can be to a large extent predetermined. in japan ’ s case, as mentioned above, the large income account surplus has driven the current account surplus in recent years. when we look across the g20 countries, this is not an isolated case. australia ’ s current account deficit can to a large extent be explained by its income account deficit. the trade balance does have a large share of the current account in many countries, but other components such as the income account often have non - negligible and sometimes significant impact on the overall picture of the current account balance ( chart 3 ). this is a reflection of the structure of their economies and needs to be well understood when assessing the evolution of the current account. bis central bankers ’ speeches chart 3 current account balances of g20 members ratios to nominal gdp – 2005 – 2009 average second, was the current account surplus indicative of “ imbalances ”? the current account surplus may have been indicative of “ imbalances ”, but does not provide sufficiently granular information to make an effective assessment. the emergence of unsustainable imbalances seems to be better and more clearly captured through other indicators such as large jumps in asset prices and the rapid expansion in corporate sector debt ( charts 4 and 5 ). japan ’ s continuously large current account surplus itself did not provide clear hints with regard to the bubbles that turned out to be the root cause of serious damage to economic stability. chart 4 major economic indicators of japan ( 1980 – 1992 ) exchange rate and official discount rate bis central bankers ’ speeches asset prices and bank lending real gdp and cpi bis central bankers ’ speeches chart 5 japan ’ s corporate sector debt ratio to nominal gdp third, how does exchange rate policy influence the overall economy? an excessive focus on preventing the appreciation of the currency and on easing the negative effects of exchange rate appreciation fostered expectations that a low interest rate environment would continue. this became one of the factors