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Japan consumer inflation eases in June as weak yen impact fades

By Leika Kihara

TOKYO (Reuters) - Japan's core consumer inflation eased slightly in the year to June, highlighting the challenges the central bank faces in meeting its 2 percent inflation target sometime next year.

But the slowdown will come as no surprise to the Bank of Japan, which has said inflation will continue to slow to around 1 percent in coming months as an increase in import costs from a weak fen fades.

The BOJ expects inflation to pick up again as a tight labor market lifts wages.

The central bank is thus in no mood to consider expanding stimulus any time soon, although some analysts warn it may face pressure to act if the economic recovery loses momentum and fails to nudge up prices late this year.

"Exports are weak and household spending - hit by the April sales tax hike - won't bounce back so strongly, which means the economy lacks a strong driver ahead," said Yoshiki Shinke, chief economist at Dai-ichi Life Research Institute.

"The economy may not recover as strongly as expected, which will certainly affect price moves," he said, predicting that the BOJ may ease policy in April next year if inflation fails to approach 2 percent by then.

The nationwide core consumer price index, which excludes volatile prices of fresh food but includes prices of oil products, rose 3.3 percent in June from a year earlier, government data showed on Friday, matching a median market forecast and slowing from a 3.4 percent gain in May.

Excluding the impact of a sales tax hike implemented in April, core consumer inflation slowed to 1.3 percent in the year to June from 1.4 percent in May, largely because rises in energy costs moderated from last year's sharp increases.

The government shared the BOJ's view that prices are rising moderately in its annual economic "white paper" on Friday, though it kept up pressure on the central bank to maintain its massive stimulus for some time as inflation remains well below its 2 percent target.

"The government has not officially declared an end to deflation, so I think that it is too early to debate about an exit strategy (from the easy policy)," Economics Minister Akira Amari told reporters after the release of the CPI data.

In one positive sign, core-core prices, which exclude both fresh food and energy, actually accelerated slightly, offering a hint of inflationary pressure in the economy.

The data showed prices rose for nearly 90 percent of components making up core CPI, including television sets and personal computers, suggesting that companies feel more comfortable raising prices with household spending holding up for now.

"There are signs the current slowdown in inflation will bottom out in the first half of next fiscal year," said Shuji Tonouchi, senior fixed-income strategist at Mitsubishi UFJ Morgan Stanley Securities.

"The BOJ can still argue that prices are on track and that inflation will accelerate again."

Core-core CPI, which is similar to core consumer prices in the United States, rose 2.3 percent in the year to June, more than a 2.2 percent annual rise in the previous month.

OUTLOOK MURKY

The BOJ has stressed that Japan is on track to meet its 2 percent inflation target as improvements in the economy allow more firms to raise prices and boost wages.

"The conquest of deflation in Japan is now in sight," BOJ Deputy Governor Hiroshi Nakaso said on Wednesday, signaling his confidence for a sustained recovery.

But many analysts still doubt whether inflation will accelerate as quickly as the BOJ projects, given that the boost to prices from the weak yen is fading.

All of the economists polled in a Reuters poll forecast the BOJ would miss its 2 percent inflation target, but expectations that the central bank would ease this year are receding given its optimism Japan is emerging from deflation.

The economic growth projection of private-sector analysts, at 0.7 percent for the current fiscal year through March, is also more bearish than the BOJ's 1.0 percent forecast.

While the BOJ is set to maintain its scenario of a moderate recovery ahead, an unexpected fall in May machinery orders and a slump in exports in June exports cloud the outlook for the world's third-largest economy.

The BOJ argues that tighter labor markets will nudge up wages and support prices, but it is uncertain whether companies will raise wages enough to make up for the loss of household spending power from the tax hike and inflation.

The BOJ has estimated that the sales tax hike - to 8 percent from 5 percent on April 1 - would add 1.7 percentage points to annual consumer inflation in April, and 2.0 points from the following month. The internal affairs ministry does not provide official estimates.

The BOJ has stood pat on monetary policy since deploying an intense burst of stimulus in April last year, when it pledged to double base money via aggressive asset purchases to accelerate inflation in two years and end Japan's decades of deflation.

(Additional reporting by Stanley White; Editing by Eric Meijer)

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