Japanese inflation subdued despite sales tax hike

Emily Nicol

Despite another broadly positive performance in US and European equities yesterday, with the S&P 500 rising 0.6% to a fresh record high, Asian equity markets were more mixed. For example, China’s CSI300 fell 0.4% today, partly reversing the gain seen at the start of the week, as did the Hang Seng. But Japan’s Topix posted a solid gain of 0.9% to close at its highest level since early December-2018. In major sovereign bonds, the Asian Pacific markets followed the global downtrend of the previous day, with 10Y ACGB yields up 9bps on the day to 1.18% despite comments by RBA Governor Lowe reiterating that the Reserve Bank was ‘prepared to ease policy further if needed’, but again noting that negative interest rates are ‘extraordinarily unlikely’. Meanwhile, 10Y JGBs rose 2bps to -0.12%, the highest since June, despite some disappointing Tokyo CPI figures that further underscored the very weak inflationary environment at the start of Q4 (see more below).

There appeared to be limited market reaction – sterling was little changed against the euro and the dollar – to last night’s defeat of UK Prime Minister Johnson’s proposal to hold an early General Election under the Fixed Term Parliaments Act. Nevertheless, the UK still looks set for an early election before Christmas, with the Government having tabled an Early Parliamentary General Election Bill setting a specific date for an election on December 12 to be discussed and voted on today. With the Liberal Democrats and SNP over the weekend having suggested an ‘almost identical’ Bill, calling for an election for 9 December, and the Leader of the House having stated that the Government will not bring back the Withdrawal Agreement Bill (WAB) this week, today’s Bill looks more likely to receive the simple majority required under this legislative route.

Ahead of Thursday’s BoJ Policy Board announcement – which will be accompanied by updated economic forecasts in its quarterly Outlook Report – the data focus in Japan overnight was on Tokyo CPI figures for October, which provided the first insight into the impact of the tax hike on prices. But these fell short of expectations, further underscoring the very subdued price environment at the start of Q4. In particular, contrasting with the anticipated 0.3ppt increase, headline CPI (unadjusted for the tax hike and other special measures) merely moved sideways in October, at just 0.4%Y/Y. When excluding fresh food prices, the BoJ’s forecast core CPI measure was a touch firmer at 0.5%Y/Y, nevertheless unchanged from September. Admittedly, when also excluding energy, the BoJ’s preferred core inflation measure edged slightly higher on the month by 0.1ppt to 0.7%Y/Y.

But while the tax hike was estimated to have added 0.72ppt to headline CPI in October, this was almost fully offset by the introduction of the Government’s free early years education policy (-0.55ppt) that month. So, given also the negative contribution from declining energy prices (which fell 2.1%Y/Y), the adjusted headline CPI measure actually fell 0.17ppt in October to just 0.2%Y/Y, the lowest for two years, with the BoJ’s forecast core inflation measure down to 0.3%Y/Y, the lowest since mid-2017.

Based on today’s figures, the national BoJ forecast measure seems highly unlikely to rise above the 0.3%Y/Y rate seen in September. And with GDP set to shift into reverse in the fourth quarter, and growth likely to be subdued thereafter, there seems no reason to expect inflation to be anything other than very subdued for the foreseeable future, with our forecast of sub-½% core inflation over the coming year. And so, while the BoJ seems bound to maintain a somewhat more optimistic view than our own, it too seems likely to revise down its full-year inflation forecasts on Thursday from its previous projections in July, which had core CPI (excluding the effects of the consumption tax hike and free education policies) of 0.8%Y/Y in FY19, 1.2%Y/Y in FY20 and 1.6%Y/Y in FY21.

Euro area:
It should be a relatively quiet day for euro area economic releases today, with just the French INSEE consumer survey for October, which broadly aligned with expectations that confidence was little changed at the start of Q4. Indeed, the headline sentiment index moved sideways in October at 104, matching the twenty-month high reached in September and remaining comfortably above the long-run average. While consumers were a touch less upbeat about their future financial situation this was close to the multi-year high reached in September. And with only a very modest deterioration in the survey’s unemployment component, the share of households considering it to be a suitable time to make major purchases over the coming twelve months increased again in October to its highest in seventeen months. Therefore, today’s survey supports our view that household consumption remained supportive to French GDP growth at the start of Q4.

Of course, focus in the UK will remain firmly on politics with MPs set to vote today on the Government’s alternative attempt to call a General Election in December. Aside from politics, today will bring the Bank of England’s latest lending data for September, which, against the backdrop of heightened uncertainty, are likely to show that consumer credit and mortgage lending growth continued to moderate at the end of Q3. In the markets, the DMO is scheduled to sell 2028 index-linked Gilts.

As the latest two-day FOMC meeting gets underway, today will bring the Conference Board’s latest consumer confidence survey for October, as well as pending home sales figures for September and the S&P CoreLogic home price index for August.

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