The faster-than-expected inflation rate is causing a dilemma for the Bank of Japan, which is coming under pressure to lower rates at a time when some board members are increasingly concerned at the public’s inflationary expectations.
Toshihiko Fukui, BoJ governor, trod a fine line in parliamentary testimony Friday, conceding that growth in the year ending March 31 would be in the “low 1 per cent range” against the bank’s previously forecast 1.8 per cent, yet insisting that a virtuous growth cycle remained in tact.
Mr Fukui rejected the premise of questions from Kozo Yamamoto, a long-time foe of the bank in the lower house, who called for the central bank to cut rates from 0.5 per cent immediately to stave off recession.
Actually, beyond the confines of the political arena the dilemma may not be as acute as it seems, since the core-core inflation (ie if we strip out food and energy) is still in negative territory (-0.1% y-o-y) and there is no real sign of any sort of sharp uptick in prices if we look at the chart below.
Also, since most of the leading international economic organisations are forecasting a slowdown in global growth this year, it would seem to be unlikely that oil prices are going to rise much further in the near future (and that is what inflation is about, surely, that prices rise, not that they are simply high), and indeed the possibility that they may slip back somewhat will have to be carefully evaluated and taken into account by the bank.
As Fukui said: “Even if a sense of crisis grows, we will calmly examine conditions and make appropriate monetary policy decisions......We will steer monetary policy based on our belief that Japan can continue to post growth in a stable manner by keeping the current accommodative conditions.”
This phrase was interpreted by many as signalling that although the bank was in no hurry to raise rates, the next move was likely to be up rather than down, but this could equally be seen the other way, since if the economy continues to move on its present downward path, and we don't see another spike in either oil or food, then the present conditions will turn from accommodative to restrictive, and what you could read Fukui as saying is that under those circumstances the bank will act accordingly.
Equally Hiroko Ota, economy minister, is well aware that in many ways energy-related inflation is not good news. “Higher crude oil prices cause Japan nothing good,” she said, adding: “They have a negative impact on consumption as the prices of goods necessary for people’s daily lives have risen while wage increases have been subdued.”
Also the Bank of Japan acknowledged earlier in the week that growth was slowing faster than expected, although they stopped short of abandoning their central scenario that Japan was still on a sustainable growth cycle.
The Bank's Bi-annual “Outlook for Economic Activity and Prices” report is the central tool for signaling mid-term BoJ intentions to markets. In October it predicted that the economy would grow 1.8 per cent in the year to March 2008, higher than the 1.3 per cent forecast by the cabinet office. While the BoJ last Tuesday implied that 1.8 per cent would now be difficult to achieve, for some reason or another they refrained from offering a new number, a stance that many observers found surprising.
The Bank stood by the view that it expected a rebound in the fiscal year to March 2009, for which in October it predicted 2.1 per cent growth, saying: “With a virtuous circle of growth in production, income and spending remaining basically intact, in fiscal 2008 the rate of real GDP is likely to be broadly as projected and slightly higher than the potential growth rate.”
Clearly whether or not this virtuous circle exists when you come to look at the way in which income and spending have failed to move in line with increases in production and reductions in unemployment, but quite possible this bullet will come to be bitten when we move on to the post Fukui era. For now what we may have is a nice old fashioned compromise, where everyone's face is saved, at least in public.