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Japanese inflation gives BOJ buyer's remorse

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Just when the Bank of Japan might have been expected to crow that price rises are finally heading towards its elusive target, insiders are fretting that it's not the kind of inflation they ordered.

[TOKYO] Just when the Bank of Japan might have been expected to crow that price rises are finally heading towards its elusive target, insiders are fretting that it's not the kind of inflation they ordered.

With oil prices slowly recovering from a crash in 2015 and the yen weak after plunging from mid-November, a growing number of analysts agree that inflation will reach around one per cent or more later this year.

That should be good news for the BOJ, which in an effort to end decades of deflation has spent four years printing trillions of yen in new money and a year ago set negative interest rates, only to see inflation stick stubbornly around zero.

Far from it, say sources familiar with the central bank's thinking.

"The key is whether price rises will accelerate backed by strength in the economy. That's not clear," said one of the sources.

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The central bank would much prefer that inflation was a product of improving economic activity or consumer sentiment, rather than external factors like oil and currency moves.

"Prices will rise, but not for the right reasons," said Yoshiki Shinke, chief economist at Dai-ichi Life Research Institute.

And if inflation is to encourage consumers to spend sooner rather than later, it would help if their capacity to spend grows, too, but employers are showing no inclination to raise wages.

"There's uncertainty on the outlook, particularly for wages," said another of the sources.

BOJ Governor Haruhiko Kuroda, in concert with Prime Minister Shinzo Abe, has been urging firms to boost wages for years, with little success.

In a Reuters poll of 531 companies this month, nearly two-thirds said they had no plans to raise workers' wages this year.

The BOJ is also wary of fuelling market speculation of an early withdrawal of its monetary stimulus measures by sounding too optimistic on prospects for achieving its 2 per cent inflation goal, the sources said.

Such speculation could spike bond yields and force the BOJ to actually step up its massive bond buying to keep yields in line with its targets.

So it will maintain or only slightly raise its inflation forecasts at next week's quarterly projection review, they said.


Before the recent yen fall, there was little to be optimistic about.

Core consumer inflation declined for the ninth consecutive month in November, and in Tokyo recorded the biggest fall in nearly four years in December.

"The weakness may be a sign companies are still cautious of raising prices," said a third of the sources.

That caution is in part a product of their experience in 2015, when price rises led to falling sales.

Fast Retailing Co Ltd, owner of Uniqlo brand clothing, reversed price rises last year after they turned consumers away.

So though analysts now think core consumer inflation will rebound in February and reach one per cent around mid-year, BOJ officials fear such gains, mostly due to higher imported grocery costs, will kill any recovery in consumption.

The BOJ's current estimate is for core consumer inflation to hit 1.5 per cent in the fiscal year beginning in April and 1.7 per cent the following year, but those estimates, considered overambitious by most analysts, were made in November, before the yen took a tumble from about 102 to the US dollar to a trough of more than 118 in early January.

In next week's review, if the BOJ factors in its estimate that a 10 per cent fall in the yen would add 0.3 per cent age point to inflation in a year, that could push next fiscal year's forecast to around 1.8 per cent.

That is still more ambitious than private forecasts of 0.8 per cent but could encourage markets to contemplate prospects for a near-term rate hike.

About 40 per cent of analysts polled by Reuters this month already expect the BOJ's next move will begin the retreat from its very loose monetary policy, up from 32 per cent in December.

So BOJ officials say any upgrade in its price projections next week won't be that big.

Some central bankers are indeed warming to the idea of raising the BOJ's yield curve targets if rising inflation reflects a solid expansion in the economy.

But many of them say there should be no debate of a rate hike until there are clear signs the economy is strong enough to generate sustained wage growth, the sources say.

Till then, the BOJ aims to puncture such speculation, even if it means playing down factors that might boost inflationary expectations.

"There needs to be a general mood among the public that conditions for normalising policy are falling into place," one of the sources said.

"That could take a very long time."


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