Japan’s spray recovery offers support for BOJ stimulus case

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(Bloomberg) – Japan’s economy contracted in the first three months of this year as the soaring import bill and the omicron blow set back its pandemic recovery, offering some support for opinion of the Bank of Japan that the stimulus should continue for the time being.

Gross domestic product contracted at an annualized rate of 1% in the quarter to March, the Cabinet Office reported on Wednesday. Economists expected a decline of 1.8%.

The setback to Japan’s already slow recovery from the pandemic stems from the deterioration in global trade as import prices surged, exacerbated by the war in Ukraine and the yen’s fall to its lowest level in two decades. The monthly trade balance has been in the red since August after supply chain issues and the return of global demand began to push up commodity prices.

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Consumer spending also stagnated as near-emergency restrictions slashed store hours and restricted activity during the record virus wave, though it showed more resilience than expected. A downward revision to the previous quarter’s growth also helped to reduce the extent of the economy’s fall.

Yet the pandemic’s fourth quarterly contraction leaves Japan trailing its global peers in regaining lost ground, bolstering the case for continued government and central bank stimulus as inflation remains well below world levels.

“It’s hard to be optimistic about the outlook for the Japanese economy today,” said Yoshiki Shinke, senior economist at the Dai-Ichi Life Research Institute. Businesses will be cautious about investing in an uncertain environment with no clear growth driver, he added.

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“What that means is that from an economics perspective, the BOJ is not at a point where it can start to normalize its policy,” Shinke said.

BOJ Governor Haruhiko Kuroda has repeatedly argued that the central bank should keep interest rates unchanged to support the fragile recovery. That stance has left Japan as a policy outlier as the Federal Reserve and other monetary authorities rush to raise borrowing costs to fight inflation.

The resulting divergence has contributed to the sharp decline in the yen which is exacerbating pressures on the economy by amplifying the impact of soaring energy and commodity import prices. Cost pressures for businesses grew at a double-digit pace for the first time since 1980 in April, intensifying pressure on businesses to pass on rising costs to consumers.

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Japan’s benchmark inflation gauge is expected to jump towards 2% in a report released on Friday as rising energy costs feed through to prices and the effect of cheap mobile phone charges fades .

What Bloomberg Economics says…

“The good news for Japan is that GDP fell much less than expected in Q1. The bad news is that the 2Q rebound is now likely to be much weaker.

— Yuki Masujima, Economist

For the full report, click here.

Prime Minister Fumio Kishida has already taken some steps to try to ease the pain of soaring prices and keep the recovery on track with measures announced in late April and funded by a supplementary budget unveiled on Tuesday. The government’s decision gives the BOJ some cover to continue its economic stimulus for the time being.

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China’s slowdown induced by its stringent virus containment measures is also clouding prospects for a robust recovery as it weighs on global trade and renews pressure on supply chains.

Still, if the economy can gain ground as the year progresses and inflation holds around the BOJ’s target level of 2%, the logic for the central bank to continue with interest rates at most bottom could become more difficult to maintain, especially if the yen continues to weaken.

The economy should at least recover to its pre-Covid level in the second quarter if consumption and business investment strengthen, according to Mari Iwashita, chief economist at Daiwa Securities Co.

“The third quarter will be key for the Japanese economy,” she said. “If it can continue to grow with increased consumer spending, that will allow it to finally leave the pandemic behind and get back on a solid recovery path.”

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