Core inflation in Tokyo, Japan’s capital, accelerated in December, providing momentum to expectations for a potential near-term interest rate hike by the Bank of Japan (BOJ). According to data released on Friday, the Tokyo core consumer price index (CPI), excluding volatile fresh food costs, rose by 2.4% in December compared to the previous year. While this fell slightly below the market’s median forecast of a 2.5% increase, it marked an uptick from November’s 2.2% rise. Meanwhile, a secondary measure that excludes both fresh food and fuel costs, considered a better reflection of demand-driven inflation, showed a 1.8% annual increase, down slightly from 1.9% in November.

Service-sector inflation also maintained a steady climb, with prices rising by 1.0% in December following a 0.9% increase in November. Analysts view this as an indication of firms passing higher wage costs onto service prices, a development aligned with the BOJ’s aim to achieve sustainable wage-driven inflation. “There’s a chance higher wages will be passed onto services prices, which is positive for the BOJ in normalizing policy,” commented Masato Koike, a senior economist at Sompo Institute Plus.

Despite the acceleration in inflation, signs of economic fragility remain evident. Separate data revealed that Japan’s factory output fell by 2.3% in November, marking the first decline in three months. This drop, attributed to reduced production of semiconductor equipment and automobiles, underscores the challenges posed by weakening global demand for exports. The data cast doubt on the resilience of Japan’s economic recovery, raising questions about the sustainability of the inflation trend.

Energy and food prices, particularly utility bills and staples like rice, played a significant role in driving Tokyo’s inflation. However, some experts warn that these price pressures could burden consumers and dampen overall demand, potentially discouraging businesses from implementing further price hikes. “When stripping away the effect of rising utility bills, there’s no sign of strength in inflation,” noted Toru Suehiro, chief economist at Daiwa Securities. Suehiro suggested that the BOJ might delay any interest rate adjustments until clearer signs of economic and price stability emerge.

The BOJ has maintained steady interest rates since raising its short-term policy rate to 0.25% in July, following the end of its negative interest rate policy in March. While there has been widespread speculation about another rate hike, Governor Kazuo Ueda has emphasized the need to assess additional data on wage trends and the potential impact of U.S. fiscal policies before making further decisions. A Reuters poll earlier this month indicated that most analysts expect the BOJ to raise rates to 0.5% by March 2024.

As policymakers prepare for the next BOJ meeting on January 23-24, Tokyo’s inflation data will be a key factor in their deliberations. The meeting will likely weigh the progress made towards the 2% inflation target against the backdrop of Japan’s export-dependent economy and the evolving global economic landscape. Whether the BOJ opts for a rate hike in January or waits for its subsequent review in March remains a focal point for market watchers.

Disclaimer:This image is taken from Reuters.