I will begin my speech by talking about the current situation of economic activity and prices. The pace of recovery in overseas economies has slowed. Chart 1 shows developments in overseas economies in the January 2023 World Economic Outlook (WEO) Update released by the International Monetary Fund (IMF). Taking a detailed look by country and region, the U.S. economy has remained on a slowing trend, reflecting price rises and continued policy interest rate hikes, although firmness has been seen in private consumption. Since 2022, the Federal Reserve has continued to raise policy interest rates to address the highest level of inflation since the early 1980s. Although it has been gradually slowing the pace of rate hikes recently, the U.S. economy is expected to continue to slow as the significant rate increases are projected to have a cumulative impact over time.
In European economies, slowdowns have been observed, mainly with price rises pushing down private consumption, as these economies have continued to be affected by the situation in Ukraine. As for the outlook, European economies are likely to slow, reflecting the impact of policy interest rate hikes. The European Central Bank has also taken an aggressive tightening stance to address the highest level of inflation since the introduction of the euro currency in 1999.
With adjustments continuing to be made in its real estate market, the Chinese economy has slowed, reflecting the impact of COVID-19. China has experienced a surge in COVID-19 infections after reversing its zero-COVID policy in December 2022. While movement toward the normalization of economic activity has been seen recently, the pace of recovery in the Chinese economy is expected to be moderate, partly due to the impact of the pandemic on employment and income and to adjustment pressure remaining in the real estate market. However, if the impact of COVID-19 subsides and the normalization of economic activity progresses more rapidly than expected, the economy could grow faster. Thus, the outlook for the Chinese economy is highly uncertain as it entails both upside and downside risks. Meanwhile, emerging and commodity-exporting economies other than China have picked up on the whole, albeit with weakness seen in part.
Despite being affected by high commodity prices, Japan’s economy has picked up as the resumption of economic activity has progressed while public health has been protected from COVID-19. Chart 2 shows developments in the real GDP growth rate and the contribution of GDP components such as private final demand, public demand, and external demand (net exports). Real GDP increased for the latest October-December quarter, registering 0.6 percent on an annualized basis, as private final demand, which includes business fixed investment and private consumption, increased moderately. However, as Chart 3 shows, Japan’s real GDP has become only slightly higher than in the October-December quarter of 2019, just before the outbreak of COVID-19, and the pace of recovery from the downturn caused by the pandemic has been moderate compared with the United States and Europe.
Turning to prices in Japan, the year-on-year rate of change in the consumer price index (CPI) for all items less fresh food has been in the range of 4.0-4.5 percent due to rises in the price of such items as energy, food, and durable goods. Chart 4 compares inflation rates in Japan, the United States, and Europe. Japan’s inflation rate has been relatively low, and unlike in the United States and Europe, where the rise in services prices has significantly pushed up overall inflation, Japan’s inflation has been mainly led by higher goods prices due to cost-push factors stemming from a rise in import prices.
B. Outlook
I would like to explain the Bank of Japan Policy Board members’ baseline scenario of the outlook for economic activity and prices in Japan. The economy is likely to recover toward the middle of the projection period, with the impact of COVID-19 and supply-side constraints waning and with support from accommodative financial conditions and the government’s economic measures, although it is expected to be under downward pressure stemming from high commodity prices and slowdowns in overseas economies. Thereafter, as a virtuous cycle from income to spending gradually intensifies, Japan’s economy is projected to continue growing at a pace above its potential growth rate. Chart 5 shows the forecasts for economic activity and prices presented in the January 2023 Outlook for Economic Activity and Prices (Outlook Report). In terms of the median of the members’ forecasts, the real GDP growth rate is projected to be 1.9 percent for fiscal 2022, 1.7 percent for fiscal 2023, and 1.1 percent for fiscal 2024. Comparing the projections with those presented in the October 2022 Outlook Report, the projected growth rates for fiscal 2023 and 2024 are somewhat lower. The lower projection for fiscal 2023 mainly reflects the downward deviation in overseas economies from the previous baseline scenario, although the government’s economic measures are likely to make a positive contribution to the growth rate. The lower projection for fiscal 2024 reflects the waning effects of those economic measures.
The year-on-year rate of increase in the CPI for all items less fresh food is expected to decelerate toward the middle of fiscal 2023 due to the diminishing effects of a pass-through to consumer prices of cost increases led by a rise in import prices, as well as to the effects of the government’s economic measures pushing down energy prices. Thereafter, it is projected to accelerate again moderately on the back of an improvement in the output gap, rises in medium- to long-term inflation expectations and in wage growth, and the waning effects of the economic measures that have been pushing down energy prices. In terms of the median of the Policy Board members’ forecasts, the year-on-year rate of change in the CPI is expected to be 3.0 percent for fiscal 2022, 1.6 percent for fiscal 2023, and 1.8 percent for fiscal 2024. Comparing the projections with those presented in the October Outlook Report, the projected rate of increase in the CPI for fiscal 2023 is more or less unchanged, as the effects of such factors as the pass-through to consumer prices of cost increases led by a rise in import prices are likely to offset the pushing down of energy prices by the government’s economic measures. The projected rate of increase in the CPI for fiscal 2024 is somewhat higher due to the waning effects of the economic measures that have been pushing down energy prices.
C. Risks to the Outlook
So far, I have explained the Policy Board members’ baseline scenario of the outlook for economic activity and prices. I would now like to discuss a few points to which I am attentive with regard to risks to the outlook.
The first involves developments in overseas economic activity and prices. There has recently been significant difference between economic cycles in Japan and those abroad, partly reflecting diverging monetary policy responses. Following the shift to a floating exchange rate system in the 1970s, the monetary policy stances of advanced economies and their corresponding economic cycles were largely in sync. However, since 2022, the United States and Europe in particular have been compelled to pursue aggressive monetary tightening to address the rise in inflation. On this point, the situation in Japan, unlike in the United States and Europe, does not warrant a change in monetary policy stance, because the inflation rate in Japan has been comparatively low and the recent higher inflation is largely attributable to cost-push factors led by a rise in import prices. Therefore, as I mentioned earlier, Japan’s economy is expected to continue recovering at a relatively moderate pace, partly owing to the effects of large-scale monetary easing. If overseas economies experience sharper slowdowns, there is a risk that Japan’s economic activity and prices will be under stronger downward pressure.
The second point involves uncertainties regarding firms’ wage-setting behavior. Wage hikes play a crucial role in achieving a virtuous cycle between economic activity and prices triggered by improvement in corporate profits. However, it has been difficult to predict the course of this spring’s labor-management wage negotiations due to uncertainties about overseas economies. Firms may remain cautious about raising base pay, given that base pay hikes, which represent an across-the-board pay rise, could lead to a heavier burden on firms, including higher retirement benefits and pensions. As Chart 6 shows, wage growth in Japan has been at around only 2 percent for more than 20 years, even when including seniority- and performance-related wage increases. If firms remain cautious, there is a risk that future wage growth will be insufficient and that sustained inflation will not be achieved. On the other hand, wage hikes from this spring onward could be higher. The Japanese Trade Union Confederation, or Rengo, has set a 5 percent target for wage growth, including seniority- and performance-related wage increases, given that firms and society at large have become more aware than in recent years of the importance of base pay increases. For example, some firms have taken a more positive stance toward raising wages in light of inflation, amid tightening labor market conditions. In the early 1990s, I was heading up the employee union of the bank I was working at. The union was demanding an increase in base pay from management. My experience back then was that unions typically negotiated on the basis of a “living wage,” or a wage level that is necessary to maintain living standards, asking for an increase in base pay that would offset the previous year’s decrease in real income stemming from inflation. Although the idea of a “living wage” virtually disappeared after the collapse of the bubble economy, there has recently been a gradual return to wage increases that take into account the rise in prices, and I am paying attention to these wage developments.
The third point that I am attentive to is the possible effects of macroeconomic policies across countries and regions, especially how asset markets will be affected by global monetary tightening, particularly as conducted in the United States and Europe. Policy interest rate hikes in the United States will also affect emerging economies, which are still on their way to recovery from the pandemic, through capital flows in global financial markets. It is essential to note that the burden of U.S. dollar-denominated debt in emerging economies will grow as the dollar continues to appreciate. Furthermore, attention should be paid to whether hidden risks are building up outside the realm of conventional financial institutions, among so-called non-bank financial intermediaries.
In addition to these points, close attention is warranted over how the course of COVID-19 at home and abroad will affect private consumption and firms’ export and production activities, and how geopolitical risks, such as the situation in Ukraine since 2022, will impact the world economy, global financial markets, and the price of commodities, including grain. Given that “once in a century” risk events such as the COVID-19 pandemic and the Ukraine crisis have occurred nearly every year, it is vital to be prepared for such low-probability but high-impact tail events.
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