bank of japan ’ s october report of recent economic and financial developments1 bank of japan, 15 october 2001 * the bank ’ s view * * adjustments in economic activity are becoming more severe, as the substantial decline in production has a negative influence on employment and income conditions. in addition, the terrorist attacks in the u. s. have further heightened uncertainty in japan ’ s economy. with regard to final demand, net exports ( real exports minus real imports ) continue to decline, reflecting not only a slowdown in overseas economies but also sluggish demand for it - related goods. business fixed investment is also decreasing noticeably while exporting conditions continue to deteriorate. housing investment remains sluggish and public investment is declining. meanwhile, private consumption remains almost flat on the whole, although somewhat weak indicators are increasing recently. industrial production continues to decline considerably, reflecting these developments in final demand and also strong excessiveness in inventories of electronic parts and materials. the decrease in corporate profits, particularly in manufacturing, has become evident and household income weakens gradually. moreover, while such perception is becoming widespread that a further deceleration in overseas economies is inevitable due to the terrorist attacks in the u. s., precautions against the business outlook are intensifying among japanese exporting firms. turning to the outlook, as for exporting conditions, although inventory adjustments in it - related goods worldwide are expected to continue for the time being, the prevailing view is that the adjustments will be basically completed by around next spring. however, there exists a risk that the prolonged downturn in u. s. private consumption affected by the terrorist attacks would induce another round of adjustments in the japanese economy, starting from the decline in exports such as of consumer goods. under these circumstances for exports, uncertainty toward the economy is growing further. meanwhile, with respect to domestic demand, business fixed investment is expected to follow a downward trend judged not only from the continuous decline in corporate profits, but also from the successive downward revisions of firms ’ investment plans in the it - related sector. private consumption is likely to weaken gradually along with the deteriorating employment and income conditions. thus, the income - generating mechanism from corporate profits to employment and wages is starting to work adversely, and at the same time government spending is projected to follow a downward trend. consequently, it may take quite a while for overall production activity to stop declining, although the decrease in the production of it - related goods may eventually come to an end. overall, adjustments in

high credit ratings and government bonds remain mostly unchanged, those between bonds with low credit ratings and government bonds seem to be expanding somewhat. stock prices are recently starting to recover slightly. in the foreign exchange market, the yen is currently being traded in the range of 120 - 122 yen to the u. s. dollar. with regard to corporate finance, private banks continue to be more active in extending loans, mainly to blue - chip companies, while carefully evaluating the credit risks involved. however, the lending attitudes of financial institutions as perceived by small firms are becoming slightly more cautious. in corporate bonds and cp markets, the fund - raising conditions for firms continue to be generally favorable. on the other hand, credit demand in the private sector is declining faster mainly because firms are decreasing their business fixed investment while continuously reducing their debts. in view of this, private banks ’ lending is following a downward trend. the amount outstanding of corporate bonds issued is growing at about 2 percent on a year - on - year basis. meanwhile, the amount outstanding of cp issued continues to be at a high level, significantly exceeding that of the previous year, due to the favorable environment for issuing cp. the growth rate of money stock ( m2 + cds ) in september was higher than that of the previous month. funding costs for firms continue to be at extremely low levels. overall, the recent financial environment remains extremely easy : witness the permeation of easiness in money market conditions, stably low interest rates, higher growth in monetary indicators, and the generally favorable conditions in corporate bonds and cp markets. however, against the background of deteriorating corporate earnings and the more cautious lending attitudes of financial institutions, fund - raising conditions of small firms are apparently becoming more severe. hence, the developments in the behavior of financial institutions and corporate financing need closer monitoring. in addition, it is necessary to carefully monitor the effects of the terrorist attacks in the u. s. and the subsequent developments on global financial markets and economic activity.