JPY outlook steadying despite likely downward BoJ revisions
When Bank of Japan officials hold their press conference on Thursday they are widely expected to cut their growth and inflation forecasts, but this may not pave the way for an even more aggressive monetary policy stance as some market commentators have been expecting
The current pace of quantitative easing, around $670 billion a year, is likely to remain unchanged at this particular meeting. Indeed, it may not even be increased in July or October as many market commentators believe. Though that will depend on whether deflation really takes hold again.
It's true that falling oil and commodity prices have frustrated the BoJ's plans to rekindle Japanese inflation with the May and June CPI are anticipated to come in at 0. That will certainly be testing for the BoJ and a potential nudge to increase its stimulus programme. However, it could well wait to see if CPI starts recovering after the summer before acting.
It's current inflation and GDP growth forecasts are pegged at 1% and 2.1% respectively for the 2015 fiscal year and both are expected to be revised down in Thursday's announcement. Surveys point to inflation expectations of 1.4% a year from now – demonstrating how hard it is for the BoJ to hit its 2% target.
Nonetheless, BoJ officials have expressed optimism that deflation is being defeated and that the economy is gradually recovering. Wage inflation – particularly important for overall inflation numbers and consumption – are to rise by 2.6% this year, their biggest gain in 17 years. If this catches on with small firms it would represent a significant economic victory for the Abe administration.
USD/JPY – JPY rout may be over for now
Total victory still far off
While the government badgers employers to pay their workers more and with oil prices stabilising – therefore they will cease to drag down the inflation numbers – the BoJ could well wait out the rest of this year to see if all these various factors have indeed abolished deflation in Japan.
JPY also appears to have stabilised for the time being, though that's in large part because the USD rally has run out of steam for the time being. If it resumes, then expect JPY to start falling again. But as it stands, JPY weakness has made Japanese exports much more competitive and has boosted the profitability of the large exporting firms.
But there are a number of factors, which could mitigate a victory over deflation. A big one is China. That country's GDP growth rate is slowing and there remain concerns over the state of its financial system. If China did have some sort of domestic financial crisis that would be a deflationary event for the world economy.
As this column has argued many times, Japan's ability to generate growth and a reasonable level of inflation are extremely hard. It faces massive deflationary demographic pressures of an ageing and soon a shrinking population. Less workers and more retired people drawing pensions will make it far harder to sustain economic growth and to boost consumption.
The BoJ's long-term battle to end deflation may never really be won. In the end it will depend on how far and how extreme the BoJ is prepared to go to defeat the deflation monster. Over the long-term the outlook for JPY remains negative.
By Justin Pugsley, Markets Analyst, MahiFX