toshihiko fukui : elaboration on the bank of japan ’ s assessment of the economic and financial situation summary of a speech by mr toshihiko fukui, governor of the bank of japan, at a meeting with business leaders, nagoya, 13 december 2004. * * * the japanese economy has been in a recovery phase since the summer of 2003. with the recent release of weak economic indicators mainly related to exports and production, market participants seem to have become a little bearish about the economic outlook. we believe, however, that the current slowdown in the pace of recovery is temporary, and that the economy is likely to move gradually onto a sustainable growth path. today, i will elaborate on the bank of japan ’ s assessment of the economic and financial situation, and the thinking behind the conduct of monetary policy. developments in overseas economies let me start with overseas economies, which provide the background to japan ’ s economic activity. overseas economies, the united states and china in particular, are expected to continue expanding, albeit at a slower pace. the u. s. economy is continuing its expansion supported by domestic private demand, including household consumption and business fixed investment. it seems to be emerging from a soft patch : the pace of increase in household consumption has picked up again, and growth in employee numbers has been recovering albeit with some fluctuations. looking forward, the u. s. economy is expected to continue expanding steadily despite the fact that tax cuts have run their course and crude oil prices remain at high levels. the chinese economy is continuing to show robust growth underpinned by steady demand at home and abroad, and still seems to be overheating. since this spring, the public authorities have taken administrative measures to deal with this overheating. furthermore, the people ’ s bank of china raised its policy rates for the first time in nine years at the end of october 2004. we continue to closely monitor the effects of these measures on the economy. the current economic situation and the sustainability of the economic recovery although growth in exports and production has been sluggish since the summer of 2004 and the annualized growth rates of real gdp for the april - june and july - september quarters of 2004 have both turned out to be more or less flat, there are several reasons for believing that a recovery mechanism remains in place. first, exports and production are expected to resume trending upward. their recent sluggish growth has been attributed to the lagged effect of the slowdown in

although crude oil prices have recently stopped rising, they remain at historically high levels. we need to continue closely monitoring their impact on economic activity and prices, including the effects of their past rises. in foreign exchange markets, attention has been paid to the downtrend of the u. s. dollar. concern about the u. s. twin deficits is often cited as a reason for the weaker dollar. the u. s. economy, however, continues to maintain high growth, and with inflation rates remaining low due to increased productivity, it is still providing golden opportunities for investors in increasingly global financial markets. confidence also remains high that fiscal and monetary policy will be directed toward securing sustainable economic growth. given this situation, the united states is not experiencing difficulty in financing its deficit. having said this, we need to carefully monitor foreign exchange rates and their impact on the economy since speculation may cause short - term volatility in foreign exchange and other financial markets. let me briefly comment on the recently released gdp statistics, which some see as confirming the weak economic recovery. the recent introduction of the chain index method for calculating the gdp deflator resulted in a downward adjustment of the real gdp growth rate from the figure calculated using the previous method. the problem with the previous method was that the base year was fixed, and this caused an increasing downward bias in the gdp deflator the further it moved away from the base year. the chain index method, which revises the weighting of various goods and services every year, has thus been introduced to reflect changes in the economic structure more appropriately. gdp statistics, which describe overall economic conditions, have their own properties and limitations like any other statistics. since our evaluation of the economy has incorporated these properties and limitations, the introduction of the new calculation method is not thought to affect our overall assessment of the economy. progress in structural adjustments supporting economic recovery the difference between this recovery and the two previous recovery phases since the bursting of the bubble is that, in both the corporate sector and the financial system, there has been progress in dealing with the structural factors affecting the japanese economy, and as a result, the private sector has become more proactive. companies have made steady progress in addressing the structural problems of their excess holdings of debt, labor, and capital, and at the same time have made efforts to formulate business models generating high value added. corporate profitability has therefore improved considerably. ratios of current profits to sales in fiscal 2004, for both manufacturing and non - manufacturing