Japan’s inflation likely pushed up in February, but likely to decelerate later

In February, Japan’s CPI, excluding fresh food, is expected to have grown 0.3% y/y after stalling in January. Inflation is helped being pushed up by factors such as passing on of price rises to products due to cost-push inflation as a result of yen’s depreciation in the past and wage hikes. The core CPI, excluding fresh food, continues to be just above 0% due to declining oil prices. However, CPI, excluding energy and food, likely rose strongly by 0.9% y/y in February from January’s 0.7% y/y.

However, inflation does not appear to be accelerating towards the 2% target set by the Bank of Japan. After weak economic growth of 0% in 2014, Japan’s economic growth remained weak at 0.5% in 2015, just about the potential growth rate. In 2016, Japanese economy is likely to record a solid growth rate of more than 0.5% due to the positive impacts of monetary policy and economic stimulus measures.

Corporate profits are also likely to grow on the back of rebounding terms of trade due to the drop in oil prices, growth of aggregate wages and a temporary growth in domestic demand ahead of the next hike in consumption tax. All these factors should help growth in 2016 assuming there is no global economic recession and that yen’s appreciation will not last for a longer time. However, since the rate of expansion in excess of demand over supply is expected to be delayed, the pace of inflation is expected to be slower than anticipated, even if oil prices stabilize.

“The rise in core CPI (excluding fresh food) is likely to be temporary and we expect it to return to around 0% in March and further to decline to a negative rate after April (till summer)”, says Societe Generale.

If oil prices rebound slowly after summer, the core CPI is expected to recover to about +0.5% y/y at the most by late 2016. The core CPI has been solid, helping the central bank’s stance that inflation is strong. However, excess demand has hardly grown in the past few years. There is a possibility that the core CPI might have peaked in February and slowly decelerate to around 0% by autumn.

However, on the positive side, a rise in real wages should boost consumption in 2016, as inflation is expected to occur only after wage increases. Nonetheless, inflation might take some time to rise due to expansion of demand. The Bank of Japan might then be unable to attain the price stability target of 2% by H1FY17 and might consider extending the ETA again.

Some BoJ staff believe that postponing the consumption tax hike might help attain the price stability target. Meanwhile, Tokyo CPI is likely to continue to fall 0.1% y/y in March. Prices face risks on the downside from declining oil prices and weak demand.