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MNI INSIGHT: BOJ To Review Price Mechanism Amid Flat Outlook

--Longer-Term Inflation Expectations Unchanged For Over A Year
By Hiroshi Inoue
     TOKYO (MNI) - Japan's longer-term inflation expectations haven't moved up
for more than a year as the pace of consumer price increase has slowed amid a
modest economic recovery, prompting Bank of Japan economists to review their
theory that firmer growth will produce upward pressure on prices, MNI
     BOJ officials are fully aware that inflation expectations will not pick up
anytime soon in the face of the stubborn deflationary mindset among companies
and households, but the stagnant price move and the slow pickup in the inflation
outlook are worse than expected.
     The BOJ board is expected to maintain its view that "inflation expectations
have been more or less unchanged," a statement unchanged since January.
     Despite the continued slow pickup in actual prices and inflation
expectations, the BOJ board has been saying the momentum toward achieving the
bank's 2% inflation target is "maintained."
     BOJ officials understand this statement is "too vague" and "does not
explain the situation well," which is why they will try to present after the
July 30-31 meeting a detailed review of the growth-price transmission mechanism
and the effectiveness of the yield curve control easing policy framework in
place since September 2016.
     Firms on average expect the annual consumer inflation rate at 0.9% a year
from now, up from 0.8% in March. But companies expect a 1.1% rise for both three
and five years ahead, unchanged from March. The three-year projection has been
unchanged for five quarters and the five-year forecast for seven quarters.
     This follows the main Tankan results released Monday that showed a slight
worsening of business sentiment, hit by rising costs, labor shortages and
uncertainty over the impact of U.S. trade disputes on global demand.
     BOJ economists are trying to figure out why prices are slow to respond to
an improvement in the output gap and a tightening labor supply.
     The BOJ has been saying that firms' stances will "gradually shift toward
raising wages and prices with the improvement in the output gap and as inflation
expectations gradually rise."
     However, inflation expectations haven't gained upward momentum because
wages and retail prices haven't risen as much as the BOJ expected despite the
positive output gap in the economy has continued for over a year.
     The underlying inflation rate measured by the core-core CPI (excluding
fresh food and energy) rose 0.3% on year in May, slowing from +0.4% in April.
     The BOJ estimates the positive output gap resulting from tighter supply and
firmer demand widened to 1.50 percentage points in the October-December quarter
of 2017 from 1.14% points in July-September (Q1 2018 data due out Wednesday).
     It was the fifth straight quarter of the gap being in positive territory.
     The improvement in the output gap is supposed to increase upward pressure
on consumer prices and inflation expectations with a lag of a few quarters, but
there is no clear sign that it is happening.
     In its quarterly Outlook Report in April, the BOJ said that "the rate of
increase in prices of goods that are responsible to economic activity, including
food products and goods related to daily necessities, is expected to accelerate
gradually with a moderate increase in private consumption."
     However, the prices for processed food (canned food, bread, snacks,
beverages, etc.), which accounts for about 15% of the total CPI, hasn't risen as
much as BOJ officials expected. The index rose 0.9% on year in May, slowing from
+1.0% in April and in March and +1.2% in February.
--MNI Tokyo Bureau; tel: +81 90-2175-0040; email:
--MNI Tokyo Bureau; tel: +81 90-4670-5309; email:

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