Japan's Machine Orders Seen Rising but Rates on Hold

Japanese machinery orders rose in the July-September period and are forecast to keep going this quarter, supporting the growth outlook for the economy, but financial market turmoil looks set to keep a lid on interest rates for the next few months.

Core private-sector machinery orders, a highly volatile series regarded as an indicator of capital spending in the coming six to nine months, rose 2.5 percent in July-September, government data showed on Thursday.

It was the first rise in three quarters and the biggest in nearly four years, thanks largely to a 17.0 percent jump in orders in July.

But orders fell 7.6 percent in September, below economists' consensus forecast for a 1.5 percent decline, following a 7.7 percent drop in August.

Expectations for a Bank of Japan rate hike retreated further as worries over the economic outlook simmered and Japanese share prices tumbled in the wake of a sharp fall in U.S. stocks on fears of more problems emanating from the housing sector.

Still, manufacturers surveyed by the Cabinet Office forecast that core orders would climb a further 3.1 percent in the current quarter.

"Orders are seen rising 3.1 percent in October-December, but given rising uncertainties about the global economy, it may be a bit risky to take that at face value," said Yoshimasa Maruyama, economist at BNP Paribas.

"Even if corporate earnings are good, it makes sense for companies to delay investment under circumstances such as these, so the economy will have weaker traction from capex," Maruyama added.

Financial markets reacted little to the data, focusing more on the U.S. economic outlook and uncertainty over global markets.

Japanese share prices dropped about 2 percent in early trade, after U.S. stocks tumbled and the dollar fell to a record low against the euro as turmoil in the U.S. housing and financial sector deepened.

Swap contracts on the overnight call rate are pricing in around a 45 percent chance of the BOJ raising rates to 0.75 percent by March, down from around 55 percent on Wednesday.

The BOJ last week kept its key policy rate unchanged at 0.5 percent for the 10th straight meeting as it needed more time to assess the depth of a U.S. economic slowdown and continued nervousness in financial markets. Its policy board meets again next Monday and Tuesday but no policy shift is expected.

The BOJ last raised rates in February, when it pushed them up to 0.5 from 0.25 percent. A further hike to 0.75 percent this autumn had been seen as a near certainty before the U.S. subprime mortgage problems shook markets.

Growth Outlook Intact

So far, there is no obvious sign that slower U.S. growth or financial market turmoil since August has hit Japan's economy, which has been growing steadily as a trend since early 2002 and is now in the longest expansionary cycle in the postwar era.

But some weak domestic data, such as a recent dive in housing starts and persistently weak wages, have reminded economists that growth in the world's second-largest economy will remain very modest.

A Reuters survey showed last week that economists expect the Japanese economy to rebound in the July-September quarter from a 0.3 percent contraction the previous quarter, thanks to growth in exports and capital spending that would help offset a decline in housing investment.

The poll produced a median forecast of 0.4 percent growth in the July-September quarter, or an annualized 1.8 percent expansion in Japan's gross domestic product, due out on Tuesday.

Separate data by the Bank of Japan showed Japanese banks' outstanding loans rose 0.7 percent in October from a year earlier.

Bank lending has been rising but the pace of growth has remained slow as many companies have abundant cash flows and are reluctant to increase debt.

The BOJ also said the most widely watched measure of money supply -- M2 plus certificates of deposit -- grew 2.0 percent in October from a year earlier, above a consensus market forecast of a 1.7 percent expansion.