Chart Of The Week: Is More QQE The Answer For Japan?

A series of economic indicators published last week for Japan confirm that the ‘magic’ of Abenomics has faded to nought. Official estimates published this week by the Cabinet Office suggest that, relative to potential, output fell significantly through last year. By 2014 Q4, Japan’s output gap was -2.2%.

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Headline CPI inflation came in at 2.4% in January, unchanged from the December reading, while the measure excluding fresh food fell 0.3 percentage points to 2.2%. But April’s increase in the rate of VAT from 5% to 8% means that unadjusted CPI data are fairly meaningless at present. Stripping out the Bank of Japan’s estimate of the impact of the fiscal tightening, we find that underlying CPI inflation is at 0.4%, with the measure excluding fresh food at just 0.2%, close to where it was when Shinzo Abe was first elected back in December 2012.

Official estimates published earlier this week by the Cabinet Office suggest that, relative to potential, output fell significantly through last year. By 2014 Q4, Japan’s output gap was -2.2%. Against this backdrop, it is not at all surprising that underlying inflation is starting to slow. A further ratcheting up of the QQE programme is almost certainly on the cards particularly if China begins to export substantial deflation. But is more of the same the answer to Japan’s woes? We suspect not. Japan’s trade balance appears much less responsive, even to significant movements in the yen effective exchange rate, than used to be the case. A hollowing-out of Japan’s manufacturing sector is almost certainly part of the explanation.

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