Eco Pulse

Japan | A monetary policy dilemma?


In line with our expectations, the Japanese economy experienced a 0.5% q/q contraction in GDP in Q1 2024. This contraction was likely linked to the disruptions caused by the earthquake on 1 January on the Noto peninsula and the temporary closure of car manufacturing plants amid a safety scandal. GDP components pointed to a broad weakness in the economy with, primarily, a fourth consecutive contraction in household consumption, which was the main driver of the fall. In addition, the release was accompanied by growth in Q4 2023 being revised down to +0.0% q/q (from +0.1% previously). However, activity is expected to rebound in Q2, with our forecasts pointing to a growth rate of +0.8% q/q.

Specifically, activity surveys were generally good in May. With a headline result of 50.5 (+0.9 pp), the manufacturing PMI, measured by Jibun Bank, indicated the first month of expansion since May 2023. This result stemmed from less important contractions in output (49.8, +0.9 pp) and new orders (49.8, +0.7 pp). Its non-manufacturing counterpart was still in expansionary territory (53.6), despite a slowdown (-0.7 pp), which contributed to relative stability in the composite PMI (52.4, +0.1 pp, the highest level since August 2023).

Core inflation (all items excl. fresh food) slowed year-on-year (+2.2% y/y, -0.4 pp), notably due to base effects, while remaining above or equal to the Bank of Japan’s target for the 24th consecutive month. This decrease in inflation is preceding a likely acceleration in Q2 and Q3 2024, caused, in particular, by an expected appreciation in energy prices. On the other hand, real wages deteriorated again in March, falling 2.1% y/y (-0.3 pp), while the unemployment rate was stable at 2.6%.

The BoJ target for the uncollateralized overnight call rate was kept at +0.0%-+0.1%, as expected, during the 25-26 April monetary policy meeting. We are still forecasting the central bank to alter the interest rate next in September, with an increase of +0.15 pp, bringing the target to +0.25%. However, a hike before then is a potential scenario, even though sluggish activity is limiting the scope for monetary tightening. In particular, the yen is continuing its downward trend (against the USD, in particular, with a low of 157 at the beginning of the month), which is increasing the risks of imported inflation, while movements in the week of 29 April fuelled suspicions of intervention in the foreign exchange market.

Article completed on 27 May 2024