Global Briefing: Nikkei Takes a Fall

The Japanese index has been rallying but a drop to 16,000 looks possible.
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The major global capital markets are mixed. In Japan, the Nikkei suffered its biggest drop in three weeks, and Japanese government bonds continued to rally. In Europe, bonds are little changed, while most bourses were posting up to 1% gains by midday on the Continent. The foreign-exchange market is quiet, with the euro little changed and the yen softer by almost 0.5%.

Japan is still in the middle of its Golden Week holidays. So although the financial markets were open today, participation was less than normal and the markets are now closed until next Wednesday. The markets' focus remains on Monday's summit between Prime Minister

Keizo Obuchi


President Clinton

. Before leaving for the U.S. today, Obuchi told reporters that he will convey the message that Japan does not need additional spending measures. This in turn encouraged bond-buying. The benchmark 10-year bond yield slipped 4 basis points to 1.42% and brought the decline on the week to 12 basis points.

Even though the batch of data earlier in the week, including industrial production, housing starts and construction orders, were above market expectations, today's data were not so encouraging. March unemployment rose to a record 4.8% from 4.6% in February, a touch above expectations. Moreover, the job-to-applicant ratio was unchanged at 0.49.

In the coming weeks, Japanese officials will unveil measures to address the rising unemployment.

Among other things, an extension of the length of unemployment benefits is under consideration. While such a step would not reduce unemployment, it would help protect income and therefore consumption. Nearly a tenth of Japan's work force is the construction sector. The large public works projects help sustain employment in this sector.

The rising unemployment is sapping income and therefore spending.

Household income fell 0.3% in March and the decline would have been closer to 2.7% if it were not for the coupons that local governments issued to try to boost consumption. Households increased spending by 1.9% in March, less than economists had expected, barely denting the 5.7% decline seen in February. The one bright spot was the increase in Japanese households propensity to spend. It rose to 69.4% in March from 67.8% in February, which represented an historic low.

A larger-than-expected fourth-quarter loss at


(SNE) - Get Report

, which accounts for almost 6.5% of the


price-weighted index, helped drag the overall market lower. The shares of other technology firms like




(full disclosure: an investor in

) also fell, weighed down by the sharp losses posted on the


in recent days.

NTT Mobile Communications

announced a stock split. The advance of its shares and other telecommunications issues helped prevent an even larger slide in the Nikkei, which shed 1.4% on relatively light volume. The Nikkei has tried in vain to convincingly rise above the 17,000 level. Although intraday penetration takes place, today marked the third failed attempt this month to close above that threshold. The technical tone of the market is weakening and an initial setback in the second half of next week could carry the index toward the 16,000 mark.

European bourses are posting modest gains.

Zurich Financial Services

, Europe's fourth-largest insurer, reported first-quarter earnings at the upper end of expectations, and this is helping lift the tone of the financial sector. Oil shares are being boosted by news that Spain's



will buy Argentina's


(YPF) - Get Report


Many chemical shares are lower, but


is seen bucking the trend. With today's gains, major European bourses are finishing the week on a firm note. Germany's


is up almost 4% for the week; France's


is up almost 3%, and the U.K.'s


is up around 2.5%.

European bond yields are little changed after being dragged lower yesterday by the fall in U.S. bond yields following the much-lower-than-expected employment cost index. However, the recent string of data, combined with the still weak euro and firm energy prices, warns that the best inflation news is behind us and until this changes, it is difficult to see a significant rally in European bonds.

France reported its March unemployment was unchanged at 11.5%.

On a seasonally adjusted basis, the queues of unemployed were 37,900 people fewer, more than offsetting the 7,900 increase seen in February. Elsewhere, the German press is reporting that Finance Minister

Hans Eichel

is considering plans that will cut the top personal income tax rate by around 5% from the current 53% rate, possibly as early as next year. A financial court recently ruled that there should be no difference between the top corporate tax rate and the top personal income tax rate. Later today an independent commission will present its proposals for cutting corporate taxes.

Yesterday's smaller-than-expected rise in first-quarter U.S. employment costs will take some of the thunder away from today's first-quarter GDP report. The ECI posted its smallest rise since this time series began in the early 1980s. Both components, wages and benefits moderated. At the end of March, employment costs were 3% higher than March 1998, which was itself 3.3% above March 1997. Of particular interest was in the FIRE (finance, insurance and real estate) segment, where employment costs fell 0.7%, the largest decline since the middle of 1987. There simply is no sign whatsoever that the tight labor markets are producing wage-led inflation.

One of the consequences of the lack of price pressures in the labor market is that the market perceives less of a risk of


tightening. The July fed funds futures contract settled yesterday at 95.21. It implies that the collective wisdom of the market attributes only about a 1-in-6 chance of a 25-basis-point hike by the Federal Reserve here in the second quarter. This compares to about a 1-in-3 chance earlier in the week. The perception of the risk of a hike in the third quarter was also reduced. The September contract settled at 95.18, implying about a 1-in-3 chance of a hike, down from a 50/50 call earlier in the week.

A subdued price deflator in today's GDP report is unlikely to prompt much more of a downgrade in tightening expectations. In fact, it seems that the next big swing in the pendulum of market psychology will be in the direction of renewed worries of Fed tightening. But the pendulum is unlikely to begin swinging back until the market begins getting more evidence of the second quarter's economic performance and price trajectory later next month.

If the market has been systematically overestimating price pressures in the U.S.

, it has been systematically underestimating the strength of the economy. Most forecasts for first-quarter GDP are around 3.5%, but given the market's bias, a 4% handle should not be surprising. And even if the overall GDP is not quite so strong, consumption should be very strong, posting a 6-7% rise.

The chief negative will be the net export function. The widening U.S. trade deficit could subtract 2-3 percentage points from U.S. GDP. The market will also be watching to see if business investment is slowing. Inventories do not appear to have been built up as much as in the fourth quarter, and this may have also been a modest constraint on first-quarter growth.

The dollar is poised to set new highs against the Swiss franc and the euro.

But strong momentum is absent, so it may make it difficult for the dollar to sustain strong gains. The dollar recovered more of the ground it lost earlier in the week to the yen and is finishing the week little changed.

Although Japanese participants are on holiday, there is talk that Japanese exporters have left orders to sell dollars at somewhat higher levels. Look for the yen 120-120.50 area to cap the upside. Lastly, the Canadian and Australian dollars may take a brief pause and consolidate their recent gains before posting another leg higher.

Marc Chandler is an independent global markets strategist who writes daily for At the time of publication, he held no positions in the stocks, currencies or instruments discussed in this column, although holdings can change at any time. While he cannot provide investment advice or recommendations, he invites you to comment on his column at