UPDATE 3-Japan firms' mood hits 4-year low as costs rise

(For more stories on Japan's economy click [ID:nECONJP])
(Adds prime minister's comments)

By Tetsushi Kajimoto

TOKYO, June 23 (Reuters) - Japanese firms' sentiment on
business conditions hit a four-year low in April-June as
commodity-driven inflation and a dim global growth outlook took
their toll, a government survey showed on Monday.

The corporate sector has been a key driver of the world's
No.2 economy but is showing some signs of losing steam this year
amid growing economic uncertainty and rising costs that squeeze
firms' profits and curb their appetite for capital spending.

The bleak business mood underscored the view that the central
bank will probably keep already low interest rates at 0.5 percent
this year before eventually raising them, possibly in early 2009.

The government's business survey index (BSI) of sentiment at
large manufacturers fell to minus 15.1 in April-June from minus
12.9 the previous quarter, while that at large service-sector
firms fell to minus 15.3 from minus 7.2. [JPBUSC=ECI]

Both readings were the lowest since the government survey
began in April-June 2004.

"The data confirms that higher oil and resource prices have
been a blow to corporate sentiment," said Takeshi Minami, chief
economist at Norinchukin Research Institute.

"Downside risks to the economy warrant careful attention, so
I think the Bank of Japan's current policy stance is
appropriate," he said.

The BOJ dropped its two-year bias towards raising rates in
late April, stressing that it was inappropriate to set a policy
direction at a time of economic uncertainty.

Prime Minister Yasuo Fukuda reiterated the government's view
that economic uncertainty is growing, adding that the Group of
Eight leaders' summit that he hosts in two weeks should help
tackle the problems of rising oil and food prices worldwide.

"The Japanese economy is being tossed around by rough waves
coming from overseas," Fukuda told a news conference later in the
day.

FURTHER SLIDE

The survey also underlined analysts' views that the BOJ's
closely watched tankan survey due on July 1 will show a further
slide in the business mood.

Japanese government bonds drew support from the survey, with
the September 10-year JGB futures 2JGBv1 rising 0.59 to 134.09,
while the Nikkei share average .N225 fell more than 1 percent
before trimming its losses later in the day.

While doubts linger about how quickly the BOJ can lift rates
as evidence mounts that soaring oil and commodity prices are
hurting Japanese firms and households, market players are looking
for the central bank to raise rates to 0.75 percent before the
current fiscal year ends next March. [JPONIBOJ=TRDT]

The survey of 11,746 firms followed a Reuters Tankan survey
last week that showed Japanese manufacturers' sentiment stayed at
a five-year low as firms felt the pinch from high raw material
costs and a global economic slowdown. [ID:nT141123]

For a graphic on the government survey, click on:
here

A separate Reuters poll showed economists saw the BOJ
tankan's headline sentiment index for big manufacturers sliding
to plus 3 from plus 11 in March, which would be the lowest
reading since September 2003. [ID:nT171969]

Still, some economists pointed to the unexpected firmness in
readings in the businesses' outlook for the upcoming quarters in
the government's latest survey.

"Sales are still growing, and this is the key," said Seiji
Adachi, senior economist at Deutsche Securities.

"Business in Asia is still firm. It's not good in the United
States but it is seen bottoming out. The yen is weak. All in all,
the outlook is not worsening," he said.

In the latest government survey, big firms' index forecast
for July-September shows a rise to plus 3.7 and a further
improvement to plus 5.7 in the last quarter this year.

The government's BSI measures the percentage of firms that
expect the business environment to improve from the previous
quarter minus the percentage that expect it to worsen.

The survey also showed firms expect their capital spending to
fall 0.9 percent in the year to next March, against a fall of 9.4
percent seen in the previous survey

Combined, all firms saw their recurring profits falling 2
percent in the current financial year while sales were expected
to rise 0.6 percent in fiscal 2008/09.

Japan's economy grew a real 1 percent in January-March, or 4
percent annualised -- far more than its potential growth rate,
which is seen around 1.5 percent -- thanks to robust exports,
despite sluggish capital spending.

But economists expect it to contract slightly in the current
quarter as support from exports would probably weaken and spikes
in oil prices cut into companies' earnings. [ID:nL12354252]
(Additional reporting by Yoko Nishikawa; Editing by Hugh Lawson)