Japan Week Ahead: Inflationary Pressures Growing amid Weak Yen, Measured BOJ Tightening Pace, Prompting Some Economists to Point to an Early September Rate Hike

By Max Sato

(MaceNews) – Upward pressures on both producer and consumer prices are mounting in Japan when only about five years ago policymakers dreamt about seeing the annual inflation rate overshoot the Bank of Japan’s 2% target from around zero.

When BOJ board members left the policy interest rate unchanged at 1% at the end of July to assess the effects of their June rate hike, they repeated their warning that the risks to inflation remain skewed to the upside. They didn’t single out the yen’s weakness but it has been driving up import costs at a time when firms are raising wages and passing higher labor and production costs on to consumers, a phenomenon that policymakers wished to see as a sign of a sustainable growth cycle.

“As for underlying CPI inflation, there is a risk that it will deviate upward to a level above the price stability target of 2%, given factors such as firms’ behavior shifting more toward raising wages and prices and medium- to long-term inflation expectations continuing to rise,” the board said in its quarterly Outlook Report released after their July 30-31 meeting. “It is necessary to pay due attention to keep such a risk from materializing and thereby exerting an adverse impact on the economy afterward.”

Economists expect the BOJ to conduct its sixth interest rate hike in the current normalization process in October, when the board updates its medium-term growth and inflation projections with risk analysis in the Outlook Report, or by the end of the year at the latest.

But given growing domestic upside risks to inflation and hints from the U.S. Treasury Department that Washington would be happier to see a faster pace of BOJ rate hikes to a more neutral level, some are looking at the possibility that the BOJ may act earlier at the Sept. 17-18 meeting. A rare joint dollar-selling market intervention by the Japanese and U.S. governments late last month also left the impression that the two allies are serious about correcting the yen’s depreciation to the level unseen in nearly four decades and that while Prime Minister Sanae Takaichi is not a big fan of the BOJ’s rate hike drive, Treasury Secretary Scott Bessent seems to be setting the stage for the BOJ to raise rates and help slow the pace of the yen’s fall.

The dollar was quoted at around ¥158.50 on Friday, up from a recent low of ¥157.20 hit on July 31, when the joint intervention pushed the U.S. currency down from around ¥160. Given that the yen’s appreciation from ¥163 seen before the MOF’s suspected dollar-selling operations on July 30 can be short-lived, Finance Minister Satsuki Katayama warned dollar bulls by saying in her Aug. 3 statement  that Tokyo and Washington “will not hesitate to conduct further joint intervention.”

Prime Minister Takaichi’s plans to boost fiscal spending and temporarily reduce the 10% sales tax to zero have stoked fears in the bond markets that the government would have to issue more debt in the absence of a clear picture of how to fund those measures, resulting in higher yields on long-term bonds. Treasury officials are concerned about negative spillover effects on the U.S. economy.

In the latest government report, Japan’s consumer inflation accelerated slightly in June due to a smaller drop in gasoline prices and larger markups in other fuels, which limited the impact of a continued moderation in processed food markups.

All three key CPI measures remain below the BOJ’s 2% target, thanks to fuel subsides since mid-March and free high school education that took effect in April, both of which are partly offsetting the impact of rising costs of imports due to the weak yen, labor amid widespread worker shortages and transportation and packaging triggered by the Iran war.

The year-on-year increase in the core CPI (excluding fresh food) accelerated to 1.6% after being unchanged at 1.4% in May and decelerating sharply to a four-year low of 1.4% in April from 1.8% in Mach.

For a clearer trend in consumer inflation, BOJ officials are closely watching the bank’s own core measures that exclude the effects of institutional factors (sales tax cuts, energy subsidies, etc.), which are pointing to an uptrend in underlying inflation above the bank’s 2% target.

The BOJ’s core CPI (excluding fresh food and institutional factors) rose 2.7% on the year in June after the annual rate eased to 2.7% in May from 2.8% in April. The institutional factors are: the effects of sales tax rate changes, free education, fuel and utility subsidies, reduction in mobile phone charges in 2021 and travel subsidy programs during the pandemic.

The BOJ’s another core measure, the CPI minus fresh food, energy and institutional factors, continued to slow to a 2.0% increase in June from 2.1% in May and 2.2% in April. The annual rate of the government’s core-core CPI (excluding fresh food and energy) stood at 1.7%, easing further from 1.8% in May and 1.9% in April.

Looking at the upstream inflation, producer prices are forecast to show a higher 7.5% annual rate of increase in July, up from 7.1% in June, as the lingering Mideast conflict has kept energy and transportation costs elevated, global memory chip shortages have boosted the prices for electronic goods and the weak yen has pushed up import costs further.

Monday, Aug. 10
0850 JST (2350 GMT/1950 EDT Sunday, Aug. 9) The Bank of Japan releases the summary of opinions from the July 30-31 meeting.

At the meeting, the BOJ’s nine-member board decided to leave the target for the overnight interest rate at 1% in an 8 to 1 vote (one member called for a hike to 1.25%) as the bank is still monitoring the impact of its fifth hike in the current cycle that was conducted in June. The board again vowed to “continue to raise the policy interest rate and adjust the degree of monetary accommodation” in response to developments in growth and inflation. Underlying inflation is nearing the bank’s 2% price stability target and financial conditions are accommodative, it noted.

Monday, Aug. 10
1400 JST (0500 GMT/0100 EDT Sunday, Aug. 9) The Cabinet Office releases the July Economy Watchers’ Survey, which was conducted from July 25 to July 31. The focus is on how the on-and-off U.S.-Iran ceasefire affected sentiment. The deadly 7.1-magnitude earthquake that shook Kumamoto Prefecture in southwestern Japa on July 28 is also a damper on regional economic activity and could cause a supply chain disruption on a national level for some industries.

The June report indicated that confidence continued to improve, thanks to easing in Mideast tensions at the time as well as robust spending by visitors from overseas who have been taking advantage of the weak yen and by affluent domestic consumers amid rising stock prices. There is also solid demand for semiconductors and air conditioners.

The Watchers’ sentiment index showing the direction of Japan’s current economic climate rose slightly to a four-month high of 44.0 in June on a seasonally adjusted basis, posting the second straight rise after rising to 43.6 in May from 40.8% in April. Before the impact of the Iran war emerged, the index climbed to a nearly two-year high of 48.9 in February from 47.6 in January. The last time the index was above the neutral line of 50 was in March 2024, when it was at 50.1.

The Watchers’ outlook index, which shows sentiment in two to three months, marked the third straight increase, rising to 45.7 in June from 40.7 in May and 39.4 in April. The index started the year at 50.1 before slipping to 50.0 in February and plunging to 38.7 in March.

Thursday, Aug. 13
0850 JST (2350 GMT/1950 EDT Wednesday, Aug. 12) The Bank of Japan releases the July corporate goods price index (CGPI).
Mace News median: CGPI +7.5% y/y (range: +6.6% to +7.5%) vs. June +7.1%; +0.6% m/m (range: -0.5% to +0.6%) vs. June +0.4%

Producer inflation in Japan is expected to continue accelerating to 7.5% in July from 7.1% in June as the lingering Mideast conflict kept energy and transportation costs elevated, global memory chip shortages boosted the prices for electronic goods and the weak yen pushed up import costs further.

Japan has increased purchases of crude oil and naphtha, the key material for producing plastics and resins, from the United States and other countries to bypass the Mideast Gulf. This has helped bring the month-on-month increase in the CGPI to a slower pace of 0.4% in June from 1.1% in May and 2.8% in April. The median forecast for July is a 0.6% rise. The 0.4% increase in June was led by fuels, utilities, wood and rubber products as well as building materials, indicating that the impact of domestic naphtha shortages had lingered.