Waiting For Wage Growth
Core CPI came in soft. The medium-term model-based forecasts are unrevised. The BoJ forecast continues to be too low. The November CPI report came in a bit lower than (we) expected. Overall, the message of this update is basically identical to last month (our note here). As we did last month, we split the message between (i) the near-term (the next 3 months or so) and (ii) the medium-term forecast. When looking at (i), the distributions suggest no acceleration. A realistic forecast (MoM saar) for the next few months is around 2-2½ percent range for both core-core and core western style. On the other hand, when looking at (ii), which is more relevant for monetary policy, the medium-term models remain above the BoJ forecast.
Pi* and neutral rates. If we put all the signals together, the impression is that Japan is not facing an extreme event like the US/UK/EA did. However, it looks like the ingredients for escaping the ZLB are there and achieving the 2% target (or even a bit above it) is possible. The only missing ingredient is wage growth which right now remains below the level consistent with target (another way of putting it is that pi* is probably still below 2%, although it is approaching it). In our view, the BoJ will wait to have confirmation from wage growth at the beginning of 2024. Should wage growth accelerate, normalizing rates to neutral is, in our view, very much possible.
A PDF containing all relevant CPI charts can be downloaded here.
A PDF containing all relevant labor market charts can be downloaded here.
MoM (saar) took a break. We estimate that in November the index ex fresh food (BoJ) increased at an annual rate of 1.1% (Figure 1). As for the other two measures of core inflation, we estimate that the index ex fresh food and energy (core core) increased 1.1% MoM saar. Finally, the index ex food and energy (US-style core) increased 2.1% MoM saar. Today’s prints are a bit softer than our expectations and the evidence of the distributions. Having said that, it is too early to jump to conclusions because the NSA indexes are still very unfriendly (see here the NSA level by year of core western-style).
Figure 1. Estimated MoM (saar) of core inflation measures.
Note: the figure shows the MoM seasonally adjusted at annual rate of three measures of “core” inflation for the Japanese CPI.
The metrics suggest some cooling. The metrics for headline CPI as well as for 3 measures of core inflation are shown in Figure 2. Today’s report has brought the 3m/3m saar of core-core to 3.6%, and western-style core to 2.7% (bottom panels of Figure 2). In the first case, prices at the margin are running a bit lower the YoY, suggesting that the latter has room to tick down in the coming months. In the second case, the metrics suggest a continuing pressure with the YoY expected to go sideways in the near-term going forward.
Figure 2. Metrics of Japanese CPI indexes.
Headline CPI
Index ex fresh food (BoJ)
Index ex fresh food and energy (core-core)
Index ex food and energy (western-style core)
Evidence from the distribution
In November, the distribution (of western-style core), is less dispersed than in October (Figure 3). The distribution remains a bit different than pre-Covid. However, in recent months the distribution appears less dispersed and well centered around target. This is a promising sign because it can signal that the process is now centered around a higher mean, more consistent with target.
(Note: the distributions over 3 months are here)
Figure 3. Ridge plot of cross-section distribution of MoM (%, ar) of CPI items ex food and energy
Note: the Figure shows the cross-section distribution of MoM (%, saar) of CPI items ex food and energy. The dashed black line indicates the median. The colors show the percentiles (<10pct, 10pct-25pct, 25-75pct, 75-90pct, and >90pct). The levels of the series (about 300 in total) are seasonally-adjusted in-house using X-13 (SEATS) option.
Our proxies of the BoJ measures of underlying inflation
BoJ underlying inflation measures can tick down. Figure 4 shows the three measures of “underlying inflation” published by the BoJ (the blue lines). For each measure, we have calculated a proxy (the yellow lines) starting from the distribution of price changes. The takeaway from Figure 4 is that our proxies remain above the BoJ measures but have started to tick down. Importantly, the MoM series (here the BoJ mode and our MoM ar proxy) suggest that there is room for the BoJ measures to fall going forward. For this reason, we are now more careful.
Figure 4. BoJ measures of underlying inflation and our proxies (%).
BoJ trimmed mean and our proxy
BoJ weighted median and our proxy
BoJ mode and our proxy
Note: the figure shows the measures of “underlying inflation” of the BoJ and our proxies. All figures are YoY changes, in percentage points.
Medium-term forecast
The medium-term forecast points to upside risks around the BoJ projections. Figure 5 shows our model-based forecast for the three measures of core inflation using the model by BoJ Hogen, Kawamoto and Nakahama (BoJ review, 20215). We are working under the nowcast assumption that core-core will growth 3.0% (ar) in Q4, while western-style core will growth 2.6% (ar). Both figures are a bit lower (one tenth) than the previous run. The bottom line is that the current forecast (see Table 1) is nearly identical to the previous run. Overall, as in previous runs, the medium-term model-based forecast remains above (or well above) the last BoJ forecast at every horizon.
An Excel file containing all data of Figure 5 can be downloaded here.
Figure 5. Medium-term model-based forecasts.
Index ex fresh food (BoJ)
Index ex fresh food and energy (core-core)
Index ex food and energy (western-style core)
Table 1. Summary of model-based forecasts
Note: The figure shows the model-based forecast of headline CPI and three measures of core CPI. The model is based on Hogen, Kawamoto and Nakahama (BoJ review, 2015). All figures are YoY percent changes. The yellow shadows are intervals of confidence calculated as quasi-out-of sample exercises. The summary table shows the average of the YoY model-based in each fiscal year (Q2, Q3, Q4, and Q1 of the following calendar year).
The “acquired inflation” issue of the BoJ
The new BoJ forecast is, once again, mechanically too low. Figure 6 shows a comparison between our (model-based) forecast for BoJ core and core-core vs the BoJ latest forecast and the estimated “acquired inflation” and “carry-over” effects. The main takeaway is that “acquired inflation” for FY2023 is already at the level of the BoJ forecast (3.8%) of the entire year. In other words, in order to meet the BoJ forecast from now on, the level of the series should stop growing, an unrealistic circumstance. Not only but conditional on our forecast, the carryover for FY2024 is already 1.4%, which means that the BoJ forecast for FY2024 (1.9%) is already too low. The risks around the BoJ staff forecast are to the upside, including at the end of the medium-term forecast. The most likely scenario is that the BoJ staff will revise up again its forecast in the coming rounds.
Figure 6. Underlying Inflation forecast vs BoJ forecast vs “acquired inflation”
Implications for the BoJ
Rates (at least) to neutral. This month, the data took a pause and we expect moderate readings in the near-term. It is hard to imagine core inflation accelerating to 6% as in the US or the EA. Nevertheless, the models suggest that the BoJ forecast is too low and that achieving 2% in the medium-term is possible. Therefore, we reiterate what we wrote in recent months: in our view, a correct risk management would call for normalizing rates and bring them (at least) to neutral.