Business spending plans may hold key to Bank of Japan's next move

By Leika Kihara

TOKYO (Reuters) - Capital expenditure, one of the few bright spots in the fragile Japanese economy, will be a key focus for the Bank of Japan as it weighs options to reduce the fallout from the widening coronavirus outbreak, sources familiar with its thinking say.

That means any measures the central bank will take in coming months will be aimed at preventing a sharp deterioration in business confidence and investment, they said.

With a key corporate sentiment survey due out in April, the BOJ may take a two-step approach: adopt stop-gap steps at its next meeting on March 18-19 to deal with the immediate hit to firms from the virus, and consider bolder monetary measures next month, they say.

Such a strategy would buy the BOJ more time to assess the scale of damage to the economy from the epidemic, and ensure it makes the most out of its dwindling policy ammunition. The BOJ is taking a cue from the markets' tumble after the Fed’s emergency interest rate cut this week that simple rate cuts may not do much to turn around markets at this stage.

"There's not much data available to gauge the impact of the virus in March," said one of the sources.

"More fundamental discussions on the economy and price momentum may have to wait until April," the source said on condition of anonymity due to the sensitivity of the matter, a view echoed by two other sources.

Separate sources have told Reuters the BOJ may take steps this month to ensure firms do not face a financial squeeze before the end of the current fiscal year, but gave no specifics.

There is no consensus within the central bank on whether further steps will be needed. That will largely depend on how financial markets move ahead of its March 18-19 rate review. Expectations of more easing by the U.S. Federal Reserve have undermined the dollar and pushed up the yen, which policymakers closely monitor.[FRX/]

If markets grow even more volatile and severely hurt business confidence, the BOJ may take steps in March such as increasing its purchases of exchange-traded funds (ETFs), analysts say.

The BOJ will also eye government measures to deal with the virus, due to be announced on March 10, to see what complementary action it may take, the sources said.

For now, many BOJ policymakers see the coronavirus impact as transitory and expect Japan's economy to rebound in the latter half of this year, even if bodies such as the IMF are slashing global growth forecasts.

Their biggest concern is that virus fears will prompt firms to slash spending, which been a rare bright spot in the economy as firms continue to invest in innovation and automation to cope with a labour crunch.

Even as manufacturers' business morale sank to a seven-year low due to the Sino-U.S. trade war, big firms still planned to increase capital expenditure by a solid 6.8% in the year ending in March 2020, the BOJ's "tankan" quarterly survey for December showed.

Non-manufacturers, on the other hand, have been far more confident about business prospects, but many firms in the services sector are now facing a collapse in tourism and consumption as the virus spreads. Japan now has over 1,000 cases and has reported 12 deaths.

If firms are reluctant to ramp up spending, it would undermine the BOJ's scenario that robust capital expenditure will offset the hit from prolonged weakness in exports.

That would cast doubt on the BOJ's argument that solid domestic demand will underpin Japan's recovery, the sources said, putting it under pressure to take bolder easing measures.

The next tankan survey, due on April 1, will be crucial in determining whether the BOJ's scenario stands.

Waiting for that data could focus investors' attention more sharply on the BOJ's subsequent rate review on April 27-28, when the board produces fresh quarterly growth and inflation forecasts.

The new projections will include for the first time the board's forecast for the year when Governor Haruhiko Kuroda's term expires.

"If the virus is not contained by the time the BOJ meets in April, the whole landscape on Japan's economic outlook will change," a second source said. "The BOJ will need to brace for that risk."

(Reporting by Leika Kihara; Editing by Kim Coghill)