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Japan's core inflation surges to decade high

AFP - Friday, June 27

TOKYO (AFP) - - Japan said Friday core inflation accelerated to the fastest pace in a decade on soaring oil costs while consumer spending tumbled, fanning jitters about the outlook for Asia's largest economy.

Japan was stuck in a deflationary spiral for years, but the return of inflation has also been met with concern as it is being driven entirely by rising import costs rather than a stronger domestic economy.

Core inflation, which excludes volatile fresh food prices, hit a decade-high of 1.5 percent in May, up from 0.9 percent in April, the government said.

The fear is that higher costs of commodities such as crude oil, steel and grains will cut into company profits and consumer spending.

"The current inflation is a bad thing," said Kyohei Morita, chief economist for Japan at Barclays Capital. "Not only corporate margins, but also household purchasing power, are worsening," he said.

Spending by Japanese households fell 3.2 percent in May from a year earlier, the government reported, while unemployment held steady at 4.0 percent.

On a brighter note, industrial output rose by 2.9 percent in May from the previous month, the first increase in three months.

Production is expected to slip 0.9 percent in June but rise 2.2 percent in July, according to a survey of manufacturers.

Japan's corporate sector has been a key driver of the recovery in the world's second-largest economy after a decade-long slump.

But many firms are now looking to scale down capital investment on new equipment and factories to cope with weaker earnings, raising fears Japan's economic recovery could stall temporarily.

Although Japan's gross domestic product (GDP) grew briskly in the first quarter of 2008, the economy is likely to contract in the second quarter while the third will be barely positive, Morita predicted.

Surging oil import costs continued to have a major impact on inflation. Excluding energy, core consumer prices slipped 0.1 percent in May. Food prices jumped 2.4 percent from a year earlier.

"The rise in the price index is not favourable at all as it was not caused by increasing demand," said Hiroko Ota, minister for economic and fiscal policy.

"The higher material costs, as well as higher oil prices, are undermining corporate performance and consumer sentiment.

Japan's central bank for years battled to end deflation with an unprecedented policy of virtually free credit.

But analysts do not expect the Bank of Japan to raise its super-low interest rates from 0.5 percent any time soon given the fragile health of the economy.

Core consumer prices in Tokyo, a leading indicator released a month earlier than the figures for the whole of Japan, rose 1.3 percent in June after a gain of 0.9 percent in May, the government reported.

Not all analysts, however, are sounding the alarm yet on inflation.

Daisuke Uno, chief market strategist of Sumitomo Mitsui Banking Corp., argued that a nationwide inflation rate of 1.5 percent was still relatively low.

"I think it's appropriate to say the Japanese economic situation still remains in deflation," he said.

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