MNI POLICY: FY24 Wage Hike Certainty Could Fuel YCC Adjustment

The Bank of Japan board believes a certain amount of wage hikes are possible next year, while inflation could reach its 2% target by October, leading to a wider yield curve control adjustment, MNI understands.

MNI reported Thursday the Bank could tweak YCC this month, softening its stance on its 'around 0%' long-term interest rate target and tweaking the current trading band (see: MNI POLICY: BOJ Mulls Softer 10-Yr Target, Flexible YCC Bands).

Meeting the 2% target will require higher actual consumer prices driven by wage negotiations next year, alongside solid corporate profits and a tight labour market. Policymakers believe a U.S. recession could thwart Japan’s economic recovery and its move towards the 2% target, however, this would represent the less likely scenario based on the U.S. Federal Reserve’s outlook.

BOJ officials will reassess the baseline scenario following the Fed’s Summary of Economic Projection available on September 20 after the FOMC meeting, while a final decision on BOJ action will depend on how policymakers, specifically Governor Kazuo Ueda, estimate the tail risk.

CONSUMER PRICES & PROFITS

Consumer price inflation, calculated this calendar year, will drive wages in 2024. Japan’s core CPI rose 3.0% y/y in fiscal 2022, which caused a 3.58% wage hike this year – the highest level in 30 years, according to Rengo, the Japanese Trade Union Confederation. Core CPI from January to May this year rose 3.4% y/y on average and actual core CP this year could print closer to fiscal 2022’s 3%. The y/y rise of core CPI will not decelerate as much as the BOJ initially predicted as pass-through of cost will likely continue at least until October.

Corporate profits, mainly among major manufacturers, will likely stay elevated, enabling firms to raise wages next year unless the global economy slows due to a U.S. recession. The labour market has tightened compared to last year, increasing pressure on wages.

OUTPUT GAP CONFUSION

A drop in real interest rates has strengthened the degree of easy policy, which could force bank officials to adjust their policy, however, the BOJ will need to maintain accommodative financial conditions.

An underestimated output gap will also prompt the BOJ to consider adjusting the degree of easy policy.

The BOJ and Cabinet Office’s recent estimate showed a small negative output gap, although both use a different calculation method. Bank officials, however, are worried both forecasts underestimate the tightness of labour market conditions, meaning inflation will strengthen more than expected. The BOJ’s recent Tankan, which detailed stronger labour shortages, supports this view.

Former BOJ Chief Economist Kazuo Momma recently said the output gap estimates suffer from a margin of error of about 1%. The trend of output is more important, he noted.