Haruhiko Kuroda: Japan's economy and monetary policy
Speech by Mr Haruhiko Kuroda, Governor of the Bank of Japan, at a meeting with business
leaders, Osaka, 28 September 2015.
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Introduction
It is my great pleasure to have the opportunity today to exchange views with a distinguished
gathering of business leaders in Kansai. I would like to take this opportunity to express my
sincerest gratitude for your cooperation with the Bank of Japan's branches in Osaka, Kobe,
and Kyoto.
Looking at the recent economic developments, the slowdown in emerging economies,
particularly China, has led to the sluggishness in Japan's exports and production. Financial
markets globally were volatile against the background of the decline in Chinese stock prices.
Meanwhile, on the price front, the year-on-year rate of increase in the consumer price index
(CPI, all items less fresh food) is about 0 percent, due mainly to the effects of the substantial
decline in crude oil prices from 2014. Thus, somewhat stagnant developments have been
noticeable since summer, but as I will explain, the fundamentals of Japan's economy are
sound and the underlying trend in inflation has been improving steadily. Quantitative and
qualitative monetary easing (QQE), which the Bank introduced in April 2013, has been
exerting its intended effects toward overcoming deflation.
Today, before exchanging views with you, I would like to explain the Bank's view on the
current situation of and outlook for economic activity and prices, as well as its monetary
policy.
I. Economic activity in Japan and abroad
Current situation of and outlook for Japan's economy
Let me start by discussing the current situation of and outlook for Japan's economic activity.
Japan's economy has continued to recover moderately with a virtuous cycle from income to
spending operating in both the corporate and household sectors, although exports and
production are affected by the slowdown in emerging economies. That is, in the corporate
sector, profits have marked a record high and firms' fixed investment stance has been
positive. In the household sector, wages have been growing - as seen in the rise in base pay
for two consecutive years in a situation where the unemployment rate has declined to the
level that can be regarded as almost corresponding to "full employment" - and private
consumption has been resilient.
The real GDP growth rate for the April-June quarter of 2015 was minus 0.3 percent on a
quarter-on-quarter basis, registering a negative figure for the first time in three quarters
(Chart 1). This is due to weak exports affected mainly by the recent slowdown in emerging
economies and to somewhat sluggish private consumption reflective of bad weather. Exports
are likely to remain more or less flat for the time being, due to the effects of the slowdown in
emerging economies. After that, however, they are likely to increase moderately as emerging
economies move out of their deceleration phase.
On this basis, Japan's economy is expected to continue recovering moderately, as the
virtuous cycle from income to spending will continue to operate in both the corporate and
household sectors. Now, I would like to touch on two points of note when observing Japan's
economic activity.
Robust domestic private demand
First, domestic private demand has continued to be robust.
In the corporate sector, Japanese firms have been improving their profitability considerably in
the face of various adversities that have occurred since the global financial crisis. In addition,
with the correction of the excessive appreciation of the yen and with the decline in crude oil
prices since summer 2014, Japanese firms have been making record profits, exceeding the
peak registered before the global financial crisis (Chart 2). Looking ahead, corporate profits
are expected to remain at their high levels.
Under this favorable earnings environment, firms' fixed investment stance is positive.
Leading indicators such as machinery orders and construction starts also suggest an
increase in business fixed investment. Firms' positive fixed investment stance could be
confirmed by various survey results. According to the June Tankan (Short-Term Economic
Survey of Enterprises in Japan), the business fixed investment plans of large manufacturing
firms for fiscal 2015 marked their highest level for this time of the year since fiscal 2004,
reflecting in part an increase in domestic investment as it appears that the yen is likely to
remain weak, and those of small firms marked roughly the same level as the average since
fiscal 2000, suggesting robustness. What is worth noting is that, as the excessive
appreciation of the yen is corrected, Japanese firms - which had been prioritizing foreign
investment - seem to be increasing their domestic investment. This is a big change. On the
back of a marked improving trend in corporate profits and the effects of monetary easing,
business fixed investment is projected to continue increasing moderately.
Turning to the household sector, labor market conditions are tight as firms have maintained
their positive stance in hiring. The unemployment rate, which was above 4 percent before the
introduction of QQE, has declined and recently registered 3.3 percent, a low level last seen
in 1997, accompanying increases in both the labor force participation rate and the number of
employees (Chart 3). Given that there is always a mismatch to some extent between job
openings and job applicants in the labor market, the unemployment rate cannot go down to
0 percent. Estimating based on the past relation between job openings and job applicants in
Japan, the recent unemployment rate of 3.0-3.5 percent could be regarded as almost
corresponding to "full employment." As labor market conditions are tight, nominal wages
have been increasing moderately, albeit with some fluctuations. In the annual
labormanagement wage negotiations this spring, many firms increased wages, including base
pay, which was raised to a larger extent than last year (Chart 4). This development has even
spread to small firms. Since the number of employees has been increasing and nominal
wages per employee have risen, overall employee income has been increasing moderately.
In terms of household spending, private consumption is somewhat sluggish recently,
reflecting bad weather in the April-June quarter. Nevertheless, as the employment and
income situation has continued with its steady improvement and consumer sentiment is on
an improving trend, private consumption seems to have remained resilient on the whole.
Looking ahead, with no consumption tax hikes this fiscal year - unlike last fiscal year - and
crude oil prices declining on an annual basis, wage increases are expected to exceed price
increases and thereby real wages are expected to rise. In this situation, private consumption
is expected to be more resilient. Housing investment, the other component of household
spending, having declined following the front-loaded increase prior to the consumption tax
hike, has picked up evidently since the turn of the year against the backdrop of steady
improvement in the employment and income situation. The pick-up is likely to continue going
forward.
Exports and overseas economies
Second, I would like to touch on exports and overseas economies. Exports had increased for
three quarters in a row since the July-September quarter of 2014, but have recently been
more or less flat, due mainly to the effects of the slowdown in emerging economies (Chart 5).
They are expected to remain more or less flat for the time being, but after that, they are likely
to increase moderately, supported by the correction of the appreciation of the yen to date as
emerging economies move out of their deceleration phase.
Looking closely at the developments in overseas economies by region, the U.S. economy
has continued to recover, underpinned by household spending. In the January-March quarter
of 2015, economic growth decelerated significantly due to transitory factors such as the
effects of the severe winter weather and the strikes at West Coast ports, but a clear rebound
was observed in the April-June quarter, with high growth. Against the backdrop of the
continued favorable employment and income situation, the growth momentum seems to be
solid. The Federal Reserve's tightening coming into sight also suggests improvement of the
U.S. economy. The European economy saw continued growth of nine consecutive quarters
and has continued to recover moderately. As the financial assistance to Greece is being
implemented, global financial markets' view on the situation has become positive. Going
forward, as the effects of the depreciation of the euro and monetary easing permeate, the
European economy will likely continue to recover moderately.
While the advanced economies are growing steadily, the emerging economies are slowing.
First, as for China, the recent substantial decline in stock prices has had a significant impact
on global financial markets. This could be regarded as a correction of the excessive level in
stock prices that had more than doubled during about the half-year prior to the decline.
Nevertheless, the real economy has also seen somewhat of a slowdown recently. With the
increase in income levels, the Chinese economy is experiencing a phase of a shift in its
economic structure from one centered on manufacturers to one centered on the services
sector, leading to a change from high growth to medium growth. The recent slowdown is
considered to be the adjustments of excess investment in manufacturers in this phase. The
fact that investment in regional economies has been weak as political, economic, and social
structural reform is carried out seems to be another reason for the slowdown. Under this
situation, the Chinese authorities have been providing a series of economic stimulus
measures both on the fiscal and monetary fronts. With relatively large room for conducting
policy measures both on the fiscal and monetary fronts, the Chinese economy is likely to
follow a generally stable growth path, albeit at a somewhat reduced pace. Emerging
economies other than China are also showing sluggishness, reflecting the spillover effects of
adjustments in China and global weakness in IT-related demand. This sluggishness is likely
to continue for some time, but as the positive effects of the growth in advanced economies
spread, economic growth in those emerging economies is expected to gradually accelerate,
with domestic demand picking up, supported by economic stimulus measures.
As a main scenario, overseas economies, particularly advanced economies, are expected to
continue to grow moderately, and emerging economies are likely to move out of the
deceleration phase. On that basis, although Japan's exports are expected to remain more or
less flat for the time being, they are likely to increase moderately thereafter. Needless to say,
due attention needs to be paid to risk factors including developments in the emerging
economies and in the global financial markets.
II. Japan's price developments
I will next talk about Japan's price developments.
The year-on-year rate of increase in the CPI (all items less fresh food) increased from minus
0.5 percent just before the introduction of QQE to 1.5 percent in April 2014, excluding the
direct effects of the consumption tax hike. However, as somewhat weak developments in
private consumption continued after the consumption tax hike and crude oil prices declined
substantially from summer last year, annual CPI inflation declined and has been about
0 percent since the turn of the year (Chart 6).
The absence of an acceleration in headline CPI inflation can be attributed to the negative
contribution of energy prices. Because of this negative effect, the year-on-year rate of
increase in the CPI has been pushed down by about 1 percentage point in recent months.
Needless to say, unless crude oil prices continue to decline, the negative contribution of
energy prices to the year-on-year rate of increase in the CPI eventually will dissipate. Simple
arithmetic shows that the negative contribution of energy prices falling off alone will push up
the year-on-year rate of increase in the CPI by about 1 percentage point compared with the
current level.
In addition, although the effects of the decline in energy prices have made it hard to discern,
the underlying trend in inflation has steadily improved. For example, the year-on-year rate of
change in the CPI for all items less fresh food and energy has been positive for
23 consecutive months since October 2013, and has increased to 1.1 percent according to
the latest figure in August. Behind such steady improvement in the underlying trend in
inflation is that firms' and households' views on prices have changed.
The changes in firms' and households' views on prices have been revealed in their wage-
and price-setting behavior. To begin with, in the spring wage negotiations between workers
and management last year, base pay was increased for the first time in two decades. In this
year's negotiations, base pay was raised for the second year in a row, and at many firms the
increases were larger than last year (Chart 4). Base pay increases were achieved at more
firms than last year and became widespread across industries and firms of different size. As
for price setting, an increasing number of firms seem to be able to pass increased costs,
including the rise in input prices and personnel expenses, on to sales prices. In addition, it
seems that households have started to accept such sales price increases on the back of an
increase or prospects for an increase in their wages. There is a variety of evidence that firms'
price-hiking behavior has become widespread and sustained since the start of this fiscal
year. For example, looking at the items that make up the CPI (all items less fresh food), the
share of items for which prices rose minus the share of items for which prices fell has risen
markedly since the beginning of this fiscal year and recently has reached the highest level
since 2000 (Chart 7). In addition, price indices compiled by the University of Tokyo and
Hitotsubashi University by aggregating the prices of food and daily necessities also show
clear price increases since April this year on a year-on-year basis, and the increases seem to
be accelerating. Many firms attempted to raise their sales prices at the beginning of last fiscal
year, but this coincided with the consumption tax hike, which was followed by a decline in
demand. Firms therefore were forced to quickly take price rises back. The price changes this
year present a clear contrast with those last year. The simultaneous occurrence of base pay
increases and price hikes should be regarded as evidence that a positive feedback loop
between the increases in employment and wages and the moderate rise in inflation is now in
place.
Given these developments, although annual CPI inflation is likely to be about 0 percent for
the time being, with the underlying trend in inflation steadily rising and the negative
contribution of the crude oil price decline dissipating, annual CPI inflation will accelerate
toward the price stability target of 2 percent. The timing of reaching around 2 percent is
projected to be around the first half of fiscal 2016, but it should be noted that the timing could
be either earlier or later than the projection, depending on developments in crude oil prices.
III. Monetary policy going forward
The Bank has been pursuing QQE, aiming to achieve a state in which the 2 percent inflation
rate is maintained in a stable manner. The observed inflation rate could move, reflecting
various temporary factors; thus, in order to achieve 2 percent in a stable manner, the
underlying trend in inflation is important. As I described earlier, the trend has been improving
steadily. However, the positive feedback loop between the increases in employment and
wages and the rise in inflation should gain further momentum in order to achieve the price
stability target of 2 percent.
The Bank will continue with QQE, aiming to achieve the price stability target of 2 percent, as
long as it is necessary for maintaining that target in a stable manner. It will examine both
upside and downside risks to economic activity and prices. The Bank maintains its policy
stance that, when there are changes in trend inflation due to manifestation of risk factors, it
will make adjustments without hesitation if judged as necessary to achieve the price stability
target at the earliest possible time.
Concluding remarks
Lastly, I would like to touch on the point that I believe is most important to ensuring that a
virtuous cycle of the Japanese economy will continue to work. Now firms are enjoying record
profits and the labor market is in a full-employment condition. In light of the mechanism of the
economy, this naturally would lead to decent economic growth and to moderate increases in
wages and prices, a view that I also share. At the same time, it is also true that the pace of
increase in fixed investment and wages is lackluster in light of record profits. This is perhaps
because deflation has been protracted in Japan and it takes time to change the deflationary
mindset of firms and households. With this in mind, the Bank will continue to strongly commit
itself to overcoming deflation and to achieving the price stability target of 2 percent. As I have
explained on several occasions, in a situation where the 2 percent target is achieved in a
stable manner, the current low interest rate environment would not last and the labor
shortage would be more acute. Those who act early to move forward to secure opportunities
in the future by utilizing profits currently at hand will be rewarded, and I am sure some of you
have already started to act. The mechanism of the economy will surely prevail, and the Bank
will definitely and decisively play its role. I will conclude my remarks by making this promise.
Thank you.
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