Surge in Japanese inflation at the beginning of the year is based on special factors

The latest inflation figure of +1.4 percent for January in Japan marks the highest year-on-year increase in consumer prices there since March 2015. That was the last month with a statistical upward bias, which was due to the preceding increase in value added tax in spring 2014. Since then, average monthly inflation in Japan has been only +0.2 percent. The country recorded a figure of only +0.5 percent for 2017 and last December was the first month in quite some time where the rate of inflation featured a “one” in front of the decimal point again. Does this mean that Japan is gradually emerging from its deflation crisis?

We are still rather sceptical about this. In evaluating the latest figure, it must be taken into consideration that it is attributable in particular to higher prices for energy imports and fresh produce such as fruit, fish and vegetables that are significantly more expensive at present. Both are product groups whose prices are volatile in response to external influences such as OPEC policy or the weather and can change direction very quickly again. In any event, they do not represent any lasting new inflationary factors and are not down to monetary policy in Japan either. Consumer prices excluding energy commodities and fresh produce were only +0.4 percent higher year-on-year in January. They hovered even closer to the zero line in the months prior to that. The core rate of inflation was exactly zero in the second quarter of 2017.

One can therefore confidently describe the reasons for the latest price surge as “special factors” that could change again, as is the case with imported energy and considerably so with exchange rate fluctuations against the Yen. For the Bank of Japan, these prices have therefore recently risen for the “wrong reasons”. With its monetary policy and in targeting its inflationary target of two percent, it is aiming for a broad-based rise in the price of consumer goods triggered by a stable increase in domestic demand. For this to be achieved, it is necessary for consumers’ general price expectations to be on a clear and long-term upward trajectory. However, this is not the case at the moment. Given the rather moderate wage increase, consumers will not necessarily react to higher prices with increased consumption. This would be needed first to give the companies more scope for raising prices. The increase in the price of oil is plainly a negative competitive factor for the companies.

The Bank of Japan would be drawing false conclusions from the latest price surge, if it were to start questioning its expansionary policy now or provide scope for speculation about an imminent end to its expansionary measures. For this very reason, Governor of the Bank of Japan, Kuroda, was recently appointed for a second five-year term of office, to avoid any imminent “break” in the Bank’s expansionary orientation – and any change in perception by market participants. Kuroda therefore has quite a lot of work to do: he will continue to work tenaciously to ensure Japan meets its inflationary target. A difficult road lies ahead until this is achieved.

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