Japan’s tax hike bolsters inflation, hurts spending

Pedestrians cross a road in Tokyo. Japan’s inflation hit a three-decade high and unemployment dipped further in May, data showed yesterday.

AFP/Tokyo

Inflation hit a three-decade high and unemployment dipped further in Japan, data showed yesterday, as the government’s bid to jumpstart the economy takes hold, but analysts warned it was too early for celebrations.

Japanese consumer inflation, stripping out volatile fresh food prices, rose 3.4% year-on-year in May, the fastest pace in 32 years, according to data from the internal affairs ministry.

The rise, which matched market expectations, was largely driven by a consumption tax hike in April that took the rate from 5% to 8%.

Other data from the ministry showed household spending plunged 8% in May on-year after a pre-rise shopping spree.

The tax rise was seen as crucial for shrinking Japan’s mammoth national debt, proportionately the worst among wealthy nations. However there have been fears it will derail a budding economic recovery by taking a bite out of consumer spending.

Separate data from the ministry of economy, trade and industry seemed to bear that out, showing retail sales edged down 0.4% in May following a 4.3% fall in April.

But economists say the downturn in consumption in the aftermath of the tax rise was largely a simple displacement.

Consumers had gone on a spending spree ahead of the first sales tax jump in 17 years, snapping up everything from big-ticket items such as cars and refrigerators to everyday goods like toilet rolls and rice. Takeshi Minami, economist at Norinchukin Research Institute, told AFP that “the belief is that the drop will be temporary and that labour shortages in some sectors will continue”.

Other official data showed Japan’s jobless rate edged down to 3.5% in May, the lowest level in nearly 17 years. The jobs-to-applicants ratio stood at 1.09, the highest in more than two decades, meaning there were 109 job offers to every 100 job seekers.

The improved ratio and unemployment figures will add pressure on firms to raise wages to attract workers, said Junichi Makino, economist at SMBC Nikko Securities.

“That’s good for households, and will also help add to inflation,” as companies have to raise prices to account for higher wages, he said.

There are about one million workers who can still join the workforce and “companies will only be able to attract those workers with higher wages,” he told Dow Jones Newswires.

Minami of Norinchukin said that with the latest data the government and the Bank of Japan can afford to maintain a wait-and-see stance for now.

But he added it was important to watch whether wages will increase to make up for the higher sales tax as the employment situation is tight only in limited sectors such as construction, retail and services. Prime Minister Shinzo Abe indicated the Japanese economy has coped well with the tax hike but said “it is too early to give such a verdict”.

Excluding the effect of the higher tax on prices, Japan’s core consumer prices were estimated to have risen 1.4% in May, just below a 1.5% increase for April. Capital Economics said in a note that it believed “underlying inflationary pressure has eased”.

The sluggish spending data also prompted Credit Suisse to say it now sees a risk that April-June quarter real-term personal consumption would be weaker than expected.

“It has appeared that personal consumption correction (after the tax rise) has been deeper than the 1997 episode” when the rate was raised to 5.0% from 3.0%, it said in a report, adding the continuing sluggishness of wages was an issue.

Meanwhile,  the mood of Japanese manufacturers probably worsened slightly in the three months to June but it will likely improve in the following quarter, reflecting expectations for a gradual recovery after a sales tax hike put a dent in consumer spending.

Big firms are expected to raise their capital spending in the current fiscal year more than they previously planned, suggesting more companies think that investing in plant and equipment will pay off in the future.

The Bank of Japan’s tankan quarterly survey is expected to show the headline index for big manufacturers’ sentiment worsened by two points from three months ago to plus 15, the Reuters poll of 19 economists showed.

That would be the first time in more than a year that the sentiment index worsened as an increase in the nationwide sales tax on April 1 placed a temporary drag on consumer spending.

Service-sector sentiment is also expected to dip, with the index for big non-manufacturing companies expected to have fallen by five points to plus 19, also the first decline in more than a year.

Analysts said improving overseas economies and Japanese firms’ strong demand for labour show that business sentiment will remain solid, which means the BoJ does not need to contemplate additional stimulus.

“I don’t expect business sentiment to deteriorate much,” said Hiroaki Muto, senior economist at Sumitomo Mitsui Asset Management Co.

“The government’s policies are working and the economy is out of deflation. No one expects a recession, so there is no need for manufacturers’ output to fall.”

The business mood among both big manufacturers and non-manufacturers is expected to strengthen over the next three months in a sign firms expect the economy to shake off the impact of the increase in the sales tax to 8% from 5%.

The central bank’s closely watched tankan survey, due on July 1, is expected to show that big firms will raise their capital spending by 6.0% for the fiscal year that began in April, more than a 0.1% increase in the previous survey.

Industrial production in May rose 0.9%, rebounding from a 2.8% fall in the previous month, according to a separate survey, showing that manufacturing is starting to regain momentum.

The industrial production data are due at 8:50 am on June 30 (2350 GMT on June 29).

The world’s third-largest economy will likely contract temporarily in April-June on a pullback in consumption after the tax hike but is seen returning to moderate growth in following quarters.

Last April, the BoJ announced an intense burst of monetary stimulus, pledging to buy assets aggressively to accelerate consumer inflation to 2% in about two years.

BoJ Governor Haruhiko Kuroda has said the nation has been steadily moving towards achieving the price target.

The BoJ will hold its next monetary policy meeting on July 14-15.