MNI POLICY: Powell Shakes BOJ View On US Recovery In Mid-2023
BOJ concerns about the outlook for exports and production have risen after the Federal Reserve chair warned of higher-than-expected U.S. rates.
Bank of Japan officials are wary their forecast for a U.S.-led global economic recovery in mid-2023 could be threatened by higher-than-expected U.S. rates after Federal Reserve chairman Jerome Powell delivered a hawkish policy outlook, MNI understands.
Powell said on Tuesday that inflationary pressures appear to be running stronger than expected and the peak in the Fed Funds Rate was likely to be higher than previously thought, leaving the door open to larger rate hikes if needed and possibly slower growth in one of Japan's major export markets. (See MNI: Powell-Fed Rate Peak Likely Higher; Could Quicken Hikes)
The timing of a U.S. recovery is key to the outlook for Japan’s exports and industrial production at a time when both are losing momentum due to slowing overseas demand and the shortage of semiconductors. (See MNI POLICY: BOJ May Lower Exports, Industrial Production View)
Bank officials are conscious of the risk that a U.S. economic recovery could be delayed and growth may deteriorate more than expected. This would place downward pressure on exports and production, which in turn will undermine the foundation of Japan’s economic recovery, they warn. Japan’s exports and production have been under pressure in Q1 following the first growth in the two quarters in the October-December period.
A weaker economy in Q1 would undermine the BOJ's expectation that the output gap will turn positive around the second half of fiscal 2022 and then continue to expand moderately. Japan's output gap was estimated at -0.06 percentage points in Q3, narrowing from the -0.71 pp in Q2. Q3 marked the 10th consecutive quarterly negative gap.
U.S. INFLATION
A big focus among officials is on whether the U.S. inflation rate shows clear signs of tracking lower and how the Fed assesses the move, although its key inflation rate will not fall to a 2% level in the short term, the BOJ estimates.
Even if the U.S. inflation rate stands at 3% to 4% mid-this year, the inflation rate will move toward 2% after a time lag if the tightness in the labor market eases and consumer spending slows in the wake of the prior rate hikes, the BOJ calculates.
Powell’s remarks have undermined the view among some BOJ officials that the Fed would not raise the federal funds rate too quickly to return inflation to 2% as the economy will be hit by past rate hikes with a time lag. The Fed is expected to take time to return inflation to its 2% target as it needs to ascertain the impact of the past rate hikes on the economy. (See MNI POLICY: US Growth In Focus As BOJ Weighs YCC Tweak Risks)
However, additional Fed rate hikes could quicken the rundown of household savings accumulated during Covid and delay a rise in households’ real purchasing power caused by eventually lower inflation rates. The BOJ sees heightened uncertainty over the timing of the transition between lower savings and a rise in real income due to easing inflation.