Japan inflation slows further

Core inflation in Japan fell further last month to just 0.5 per cent year-on-year, as plunging oil prices offset the effects of growing domestic economic activity and massive monetary loosening.

The sluggish rise in underlying prices, the lowest in 18 months, comes as some economists are ratcheting their forecasts still lower. Barclays economists are looking at an increase of 0.3 per cent for this month and, depending on oil prices, reckon a slide back into deflation from May “is now more likely”.

The deceleration came in spite of a 1 per cent rise in industrial production on the previous month, suggesting Japan is shaking off last year’s technical recession, and a fall in the unemployment rate to 3.4 per cent — the lowest since the 1990s.

It highlights the fundamental tension in Japan’s economy after the aggressive stimulus programme of Prime Minister Shinzo Abe: activity is picking up, but it is still not resulting in upward pressure on prices.

The numbers suggest the Bank of Japan will struggle to hit its inflation forecast of 1 per cent for the year to March 2016. That threatens the BoJ’s credibility, but does not mean Abenomics has failed — when the economy runs out of unemployed workers and idle factories, inflation should pick up, say analysts.

Tighter labour markets are already in evidence, with further data released on Friday showing an additional 380,000 jobs were created last month, from the same period a year earlier, pushing unemployment to its lowest level since 1997. The job openings-to-applicants ratio rose to 1.15 times, up from 1.03 times a year ago.

This, however, masks Japan’s underemployment, with an increasing portion of the labour force in part-time work.

“The labour market continues to tighten, as the economic recovery is picking up speed,” said Marcel Thieliant, Japan economist at Capital Economics in Singapore. “However, the continued slowdown in inflation suggests that the Bank of Japan still has more work to do.”

Consumer prices excluding fresh food, the BoJ’s preferred measure, rose 2.5 per cent on a year earlier in December compared with 2.7 per cent in November. Stripping out roughly 2 percentage points because of last year’s consumption tax increase gives a core figure of 0.5 per cent.

The main culprit is falling oil prices . Much of that drop has yet to be passed on to Japanese consumers, suggesting inflation will be subdued for most of the year.

Cheaper oil helps lower bills for Japan, a huge energy importer, but makes it harder for the BoJ to persuade the public it has eliminated deflation. Getting rid of Japan’s deflationary mindset is crucial to creating a self-sustaining cycle of consumption and further inflation.

Mr Abe’s government and the BoJ have been backing away from their pledge of 2 per cent inflation in the next fiscal year, beginning on April 1. Many economists believe the BoJ will need to do more at some point this year to prove its commitment to hitting the target.

But the data on economic activity suggest there is still a good chance of generating inflation once the oil price effect wears off. A 1.7 per cent quarter-on-quarter rise in industrial production suggests the economy as a whole expanded at the end of 2014.

Meanwhile, inflation-adjusted household consumption rose 0.4 per cent on the previous month in December.