–Momma Expects BOJ Rate Hikes in September, January but Warns of Economic Uncertainty
–Momma Estimates BOJ’s Own Measure of Underlying Inflation at 1.5%, Still Below 2% Target
–Momma: Central Banks Alone Cannot Anchor Inflation; Need Fiscal, Tax Policy Backup for Wealth Redistribution
By Max Sato
TOKYO (MaceNews) – The Bank of Japan will remain cautious about following up on its first interest rate hike in 17 years in March as services costs have been slow to rise, leaving the bank with little choice but to wait at least until its September meeting to confirm more widespread and sustainable wage hikes, Kazuo Momma, a former senior BOJ official, said.
The bank will not try to guide the weak yen firmer in the currency market with monetary policy because it is not within its mandate and also such manipulation would run counter to the decades-long agreement among the Group of Seven major economies, Momma, executive economist at Mizuho Research and Technologies, told Mace News in a recent interview.
“My forecast is that the bank will conduct its next rate hike in September and wait until January or March to raise rates further,” Momma said. “Some people expect the next move in July but there won’t be enough data by then (July 30-31).”
He expects the BOJ to raise the short-term rate to 0.25% in September and increase it further to 0.5% early next year. Beyond that timeframe, Momma said it is unpredictable due to uncertainty over domestic and global economies.
“I’m not so confident about those two hikes, either,” he said. “They may not be able to hike in September and it may be delayed until October, yearend or even next year.”
At its latest meeting on June 13-14, the BOJ’s nine-member board decided in a unanimous vote to hold the overnight interest rate target steady in a range of 0% to 0.1% for the second straight meeting after its first rate hike in 17 years and ending the seven-year-old yield curve control framework in March.
At the same time, the board decided in an 8 to 1 vote to set the stage for gradually reducing the bank’s large holdings of various financial assets for the next year or two “to ensure long-term interest rates would be formed more freely in financial markets.” It will work out a specific plan at its July 30-31 meeting after bank officials have compared notes with market participants.
Momma was assistant governor from March 2013 until May 2016. Previously, he was the director-general of the Monetary Affairs Department and the chief economist at the bank.
By waiting until the Sept. 19-20 meeting, BOJ officials will be able to see more signs as to whether wage hikes announced by major firms in April for the current fiscal year, up 5.1% in the weighted average and the highest rate in 33 years (base wages are up 3.6%), are spreading to smaller firms in the government’s monthly labor survey, with June data due on Aug. 6 and July data on Sept. 5.
There will also be more CPI data to confirm whether various service providers are raising wages and reflecting them in the prices that they charge. June figures are out on July 19 after deceleration in underlying inflation in the May report. The July CPI is due on Aug. 23 and the August report on Sept. 20.
“The focus is on base wages to assess whether they are pushing up overall cash earnings,” Momma said. “We have to check the May, June and July data to confirm if firms are reflecting the results of the labor negotiations in the spring and if (BOJ officials) can be confident that the underlying inflation rate is set to rise gradually. If those data are not good enough, they cannot raise rates (in September).”
So, what is underlying inflation and how is it defined? The BOJ monitors various price data and anecdotal evidence and makes a “comprehensive” judgement.
Momma estimates it is around 1.5%, based on charts provided in the BOJ’s quarterly Outlook Report.
Governor Kazuo Ueda said in a speech on May 8 that the BOJ presented three approaches to capturing “underlying inflation” in the April report: (1) extracting underlying factors from price statistics through a new method; (2) focusing on indicators of inflation expectations; and (3) estimating indicators of trend inflation from economic models.
The levels of these indicators vary but “all of them are below the price stability target of 2%,” Ueda said, but he also noted that “all of the indicators have been rising gradually, meaning that underlying inflation is almost certainly rising.”
“Thus, at this point, underlying inflation seems to be on a rising path toward 2%,” the governor said.
Momma said the BOJ hasn’t raised rates yet since March because underlying inflation rate is still too low. The bank’s latest projection is that it should be able to achieve stable 2% inflation in about a year or two.
Among many policy watchers, there is a view or an expectation that the BOJ should raise rates in July or September to help guide the yen firmer because the weak yen is unpopular among the general public.
“That is different from the BOJ’s logic,” Momma said. “They will only take foreign exchange rates into account if they have an influence on underlying inflation, which means fluctuations in the forex market by themselves are not their policy target.”
“The BOJ’s mandate is to ensure price stability,” he said. “From the BOJ’s viewpoint, the increase in prices is still too low. They want to see them rise further. That’s why they are still maintaining accommodative conditions.”
BOJ policymakers have said real interest rates are estimated to be still in negative territory because nominal short-term rates are still close to zero.
Momma said the May CPI report released last month was disappointing for BOJ officials. The core consumer price index (excluding fresh food prices) rose 2.5% on year in May, up from a three-month low of 2.2% in April. But the core-core CPI (excluding fresh food and energy) slowed to a 20-month low of 2.1% from 2.4%.
Service prices excluding owners’ equivalent rent rose 2.2% on year in May, pushing up the total CPI by 0.71 percentage point, following a 2.5% rise (plus 0.79 point) in April. Goods prices excluding fresh food gained 3.5% (plus 1.69 points), rising sharply from a 2.6% rise (plus 1.28 point) as utility costs showed a hefty increase in May after falling for more than a year.
Overall services costs rose just 1.6% in May after a 1.7% rise in April. Of the 1.6% increase, the majority — 1.3 percentage points — came from four items that are up for one-off factors: Overseas package tours, accommodations, eating out and mobile communications, Momma said.
“Service price gains from a wide range of categories reflecting wage hikes were expected but haven’t happened,” he said.
The spike in prices for overseas package tours this year is because they are compared with the 2021 levels. The government resumed its data collection after a three-year suspension during the pandemic. Hotel fees and restaurant prices are markedly higher than year-earlier levels partly due to transitory factors like a sharp recovery of inbound tourism.
The high pace of wage increases among large firms is expected to spread to smaller firms this year but it is not certain if it shows up in the monthly labor survey before the BOJ’s September meeting.
“Whether wage rises translate into healthy consumption is even more uncertain,” Momma said. “We might see a slight positive figure (in real wages) but that won’t be much of consolation. A slight gain won’t make up for more than two years of the cumulative decline. People are going to feel poorer than two years ago for a while.”
Total monthly average cash earnings per regular employee in Japan posted their 29th straight year-on-year rise, up a preliminary 1.9% in May, accelerating from gains of 1.6% in April and 1.0% in March. It remains the largest increase since 2.3% in June 2023. Base wages rose 2.5% on year after rising 1.8% (revised down from 2.3%), marking the 31st straight gain.
In real terms, however, average wages fell 1.4% on year for the 26th consecutive drop, with the pace of decline accelerating from a 1.2% fall the previous month. To calculate real wages, the labor ministry uses the overall consumer price index minus owners’ equivalent rent, which rose 3.3% on year in May after rising 2.9% in April.
Large corporations are raising wages to secure workers amid labor shortages. A special volume on the trend of wages at small businesses issued after the BOJ’s main quarterly Sakura Report on regional economies for July showed that more firms are generally raising wages and improving working conditions but some cannot afford to offer any pay raises or can only give higher bonuses.
Higher take home pay is key to propping up consumer sentiment and thus private consumption that declined for the fourth straight quarter in the January-March GDP data, which showed the economy posted its first contraction in two quarters, down 0.7% on quarter, or an annualized 2.9%.
The last thing the BOJ wants to do is to raise rates at a rapid pace and be blamed for any economic slowdown later, which may be caused by other factors.
In the preliminary GDP data for the April-June quarter due on Aug. 15, the economy is expected to show modest growth of about 2% annualized as auto production resumed in March but more revelations of false safety test records in June, this time at Toyota Motor itself, instead of its subsidiaries, could slow output.
Momma also points to a wide perception gap between the BOJ and the public regarding what the bank is equipped to do and why the bank is not raising rates to help correct the falling value of the yen that is keeping import costs high and hurting many households.
He blames the gap on what he calls misaligned policy coordination between the central bank and the government dating to their joint statement issued in January 2003 at the start of the then Prime Minister Shinzo Abe’s reflationary policy mix of aggressive monetary easing, flexible fiscal spending and deregulation dubbed Abenomics, which was later criticized for having a lopsided importance attached to massive cash injections by the BOJ.
The BOJ is looking at the underlying inflation rate, excluding volatile items like fresh food and energy, but consumers are sensitive to elevated costs for food, utilities and fuels.
“The BOJ is focused on the items whose prices are stickier partly because of their linkage to wages, in other words, services prices,” Momma said. “But people don’t understand why the BOJ is looking at services, being so preoccupied with the 2% price stability target and not responding to the weak yen.”
“The BOJ is not responsible for currency stability,” he said. “It is solely responsible for price stability set by law, which is more explicitly specified as the 2% target by the joint statement. For the BOJ, all that matters is whether it can achieve the 2% target. For that purpose, it is even better to have a weak yen, which differs from what the public wants.”
The Ministry of Finance is responsible for seeking currency market stability but the G7 countries have a long-lasting agreement to refrain from trying to influence forex rates through intervention.
“Currency intervention does work at the time but its effects don’t last even for two to three months,” Momma said. “Changing interest rates work better on exchange rates.”
“Monetary policy, despite its more reliable power to influence exchange rates, is not actually responsible for currency stability while the government, which only has an intervention tool, is responsible for foreign exchange,” he said. “It is a problem of linking the wrong tools to the wrong responsibilities in the entire policy framework. As long as this framework exists, this contradiction will continue to emerge.”
But it would be difficult to stipulate currency stability as part of the BOJ’s mandate in the Bank of Japan Act because that would go against the G7 agreement.
Then can the BOJ and the Japanese government work out a better policy coordination framework?
“They have to find a comprehensive approach toward seeking both currency and price stability in overall macroeconomic policy by carefully combining the effects of fiscal, monetary and other policy measures including subsidies,” Momma said, adding that subsidies can be used, particularly from an economic security point of view, to increase their home production capacity. That should help revitalize industrial competitiveness, which in turn would contribute to a stronger currency in the long run.
Japanese stock markets are catching up to the record-high performances of the U.S. markets and this should support consumer confidence. Enhanced tax-free investment and savings accounts in Japan are also helping previously cash-heavy Japanese households seek higher returns but this also reflects the government’s message that people cannot depend on the public pension system in an aging society.
“The percentage of people who can benefit from the wealth effect of financial markets is limited,” Momma warned. “It also contributes to worsening inequality like in the U.S. In order for national consumption to rise, we have to depend on higher wages paid for labor.”
“The top concern that I have about the U.S. is that gap between the rich and the middle to lower income earners,” he said. “Consumer spending in the U.S. has been led by the rich and high interest rates don’t hurt them at all. They actually benefit from higher returns on some assets and also gain from the stock market boom.”
The Federal Reserve cannot lower interest rates so easily because consumption is supported by the rich while middle to lower income households are hurting under elevated prices and borrowing costs, leading to higher credit card debt, Momma said.
“There is no system to share the pain of inflation among different members of the society,” he said. “It makes the division worse. I think high inflation and interest rates are partly responsible for the low public ratings of the Biden administration.”
The policy contradiction in the U.S. is not emerging in the currency market as seen in the weak yen complication in Japan but it is wrong to try to contain inflation with high interest rates alone, Momma said.
“They (the Fed) could work more closely with the government, like taming spending by the rich by imposing a higher tax on them,” he said.
In the 1970s and 1980s, the U.S. tried to redistribute wealth through fiscal policy but it didn’t work due to the inability of the government to tax the rich or prevent various interest groups from distorting the flow of money. Since then, it has let monetary policy dictate macroeconomic policy and Japan copied that model, he said.
“We’ve been managing macroeconomic policy with the second-best option,” Momma said. “If we don’t find the human wisdom to use the government, things are not going to get better. Isn’t it odd to see the BOJ being forced to do something that it is not capable of achieving: price stability?”