Deflation fears for Japan

A drop in consumer prices has stoked fears of deflation in Japan. The ministry of finance reports consumer prices in May were down 0.2% from the previous month, and 1.1% over the year.

A drop in consumer prices has stoked fears of deflation in Japan.

The ministry of finance reports consumer prices in May were down 0.2% from the previous month, and 1.1% over the year.

The news comes just one day after the Organisation for Economic Co-operation and Development (OECD) issued its latest Economic Outlook in which it warned that deflation has become entrenched in Japan.

The OECD has urged the Bank of Japan to fight deflation through a strong commitment to implement effective quantitative measures until underlying inflation is firmly positive.

Although the fiscal stimulus package is helping to limit the downturn, Japan needs to focus on fiscal consolidation as the economy stabilises, says the OECD. Its large budget deficit and high public debt ratio makes it also more vulnerable to a rise in long-term interest rates from current lows of around 1.5%.

“The global crisis has taken a heavy toll on Japan’s trade-dependent economy,” the report says. During the fourth quarter of last year and the first quarter of this year, Japanese exports fell at a 50% annualised rate.

While business investment has plunged and unemployment has risen, wages have reduced private consumption. The yen, which has apprieciated sharply, has also contributed to the collapse of what once was one of the world’s strongest economies. As markets deteriorated at an unprecedented scale, corporate profitability suffered too.

The OECD says that the sharp fall in output could further disrupt the financial sector, which could in turn put more downward pressure on economic activity.

Although the Asian giant is showing signs that the trade-induced contraction is close to the end, recovery is likely to be slow. Output growth is expected to turn positive in the latter half of 2009, but export growth will probably remain subdued, given the weakness in Japan’s trading partners and the higher level of the yen.

As the impact of fiscal stimulus fades in 2010, the OECD says, the upturn will depend primarily on private domestic demand, which is projected to be below 1% through next year.

“On the other hand, a faster-than-expected rebound in world trade, coupled with some weakening of the yen, would result in stronger-than-projected export and output growth in Japan,” the report continues.


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