Tokyo inflation rose to highest in four decades, but unlikely to change BoJ’s assessment of future monetary policy

Despite elevated CPI readings, Japan inflation expected to peak in January and start to moderate in February

• In Tokyo the core CPI rose 4.3% YoY in January, up from a 3.9% YoY increase in December (+4.0% YoY in flash data), the highest reading since May 1981 (+4.3% YoY). The result also overshot the median market projection for a 4.2% YoY climb. The spike from December was mainly driven by a drop in the negative contribution from hotel charges as the discount rate in the domestic travel support program decreased, and a further acceleration in “clothes and footwear” prices. Core CPI excluding special factors (i.e., energy, mobile phone charges, and hotel charges) increased 3.15% YoY in January, up from a 2.95% YoY advance in December. Prices for services have been rising slowly. Underlying services inflation, which excludes eating out and communications/ recreational services (including mobile phone charges, hotel charges), increased 0.5% YoY in January after a 0.6% YoY advance in December, remaining sub 1.0% YoY.

• Based on today’s result, Citi Research estimate the nationwide core CPI will probably increase 4.3% YoY in January, up from a 4.0% YoY advance in December. Citi Research expect nationwide core CPI inflation to hit a peak in January and then start to moderate from February as the government measures to curb electricity and gas charges take effect.

Week Ahead  

• Fed FOMC meeting: Citi Forecast 4.5-4.75%; Consensus 4.5-4.75%; Prior 4.25-4.5% – Citi Research and consensus expect the Fed to raise rates by 25bp with modest hawkish risks at this week’s FOMC meeting. The statement will likely continue to reflect that “ongoing increases” or perhaps “further increase” will be appropriate. A dovish surprise would be language change to “some further increases” or dropping the forward guidance altogether. Powell will likely take the opportunity to reassert that policy rates will likely rise to above 5% and stay there, but he may be happy to give relatively little push-back to current market pricing and await further data to more clearly indicate the appropriate trajectory for policy rates.

• US Nonfarm Payrolls – Citi: 305k, median: 190k, prior: 223k, Private Payrolls – Citi: 245k, median: 185k, prior: 220k, Manufacturing Payrolls – Citi: 0k, median: 10k, prior: 8k – Citi Research expect a sizable 305k increase in total nonfarm payrolls in January, with some strength due to more technical factors but still-solid underlying job growth. While Citi Research would not be surprised to see some further weakness in payrolls in sectors like manufacturing or tech, Citi Research expect solid employment growth in most services sectors and even some goods sectors like construction despite housing weakness. Part of the strength in January could be related to seasonal adjustment dynamics. On a non-seasonally adjusted basis, payrolls decline by around 3mln jobs every January, which the seasonal factor then upwardly adjusts for seasonally adj data.

• US Average Hourly Earnings MoM – Citi: 0.4%, median: 0.3%, prior: 0.3%, Average Hourly Earnings YoY – Citi: 4.4%, median: 4.3%, prior: 4.6% - Citi Research expect a somewhat stronger 0.4% increase in average hourly earnings in January compared to December, with roughly balanced risks around our above-consensus forecast. Downside risks could result from possible layoffs in higher-earning sectors or from a rebound in hours worked after two months of declining hours (the denominator of average hourly earnings). However, Citi Research would also continue to highlight remaining upside risks for average hourly earnings generally due to a tight labor market. The start of the year could also bring larger-than-usual new year wage resets given the past year of much higher living costs.

• US Unemployment Rate – Citi: 3.5%, median: 3.6%, prior: 3.5% - Citi Research expect the unemployment rate to remain unchanged at 3.5%, although with some elevated uncertainty around components of the household survey in January.

• US ISM Manufacturing – Citi: 47.7, median: 48.0, prior: 48.4, ISM Services – Citi: 52.1, median: 50.5, prior: 49.6 – Citi Research expect a further decline in the ISM manufacturing index in January to 47.7, with further weakness in components like new orders and production. The production index has likely been somewhat stronger than new orders as hard data showed production levels remained strong through much of 2022 despite softer goods demand. In addition, softer survey data has been one of the clearest indications that services activity may be weakening, especially following the large drop in ISM services to 49.6 in December.

• ECB Board meeting: Deposit Facility Rate – Citi Forecast 2.5%, Consensus 2.5%, Prior 2.0% - the fall in gas prices is interpreted by many as indication that inflation in Europe was transitory after all. But it is also often interpreted to mean that the ECB will quickly depart from the “steady pace” of rate hikes it promised in December. Citi Research disagree and expect the ECB to stick to 50 bp hikes at the next two meetings.

• Euro Area: Economic Sentiment Index, January: Citi Forecast 97.1, Consensus 97.0, Prior 95.8 (out of recession territory); Euro Area: Real GDP, 4Q: Citi Forecast -0.2% QQ, Consensus -0.1% QQ, Prior 0.3% QQ (recession start or not?); Euro Area: HICP Inflation, January: Citi Forecast 8.9%YY, Consensus 9.0% YY, Prior 9.2% YY; Core Inflation, January: Citi Forecast 5.3%YY, Consensus 5.1% YY, Prior 5.2% YY.

• Bank of England: Still forceful, but only just: Bank Rate – Citi Forecast 4.0%, Consensus 4.0%, Prior 3.5% (but meaningful risk of 25bp) - while there is a strong case for the MPC to hike by only 25bps this week, a 50bps move still feels more likely. By any measure, credit conditions in UK are tight, demand soft and a nascent margin of slack increasingly evident. This alone should give pause for thought. However, recent wage and services inflation data are likely to aggravate concerns surrounding persistence. While non-core inflation is also now likely to fall quickly, a deceleration would also require a shift in thinking surrounding supply – with current wage pressure attributed to ‘downward rigidities’, rather than more persistent labor market challenges. The issue for this meeting is that the same framework would also point to greater risks of a near-term de-anchoring. With demand now likely stronger, and domestic price pressures still intense, Citi Research expect the ‘balance of fear’ to therefore lean towards doing more sooner, with a deceleration to 25bps likely in March.

• Japan December unemployment rate, forecast 2.5% of workforce, previous 2.5% - The unemployment rate probably came to 2.5% in December, unchanged from November, while the effective job-openings-to-applicant ratio likely rose from 1.35 to 1.37. The government eased border controls and launched a domestic travel subsidy program in October. Against this backdrop, a rebound in services activity likely supported continued improvement in labor-related data. Going forward, if service activity continues to recover (e.g., significant inbound consumption growth), labor shortages will intensify further and pose an even more important challenge for Japanese businesses.

• Japan December retail sales, forecast 3.1% YoY, 0.5%SA MoM, previous 2.5% YoY, -1.3% SA MoM - Retail sales probably increased 3.1% YoY in December after a 2.5% YoY advance in November. On a MoM basis, Citi Research expect a 0.5% increase in December after a 1.3% fall in November. With inbound consumption growing following the relaxation of border control, retail sales likely remained firm. Spending on services, which is not captured by retail sales data, likely remained solid as well due partly to the government program supporting domestic travel. Citi Research expect consumer spending to continue growing steadily and currently pencil in a 0.5% QoQ advance in the fourth-quarter GDP data.

• AU Dec. Retail Trade: Citi Research MoM forecast; -4.5%, Previous; 1.4% - The forecast shows the downside risk to retail trade in December largely thanks to higher-than-expected spending across the November sales period. Although on year-ago basis retail trade is expected to increase, Citi Research now believe that consumers will become more sensitive around sales events. As interest rate rises bite into consumer balance sheets, Citi Research expect retail trade to be more volatile over the course of 2023.

• NZ Q4 Labor Force and Private Sector Wages: Citi Research forecasts, QoQ employment change forecast; 0.2%, Previous; 1.3%, QoQ unemployment rate forecast; 3.4%, Previous; 3.3%, participation rate forecast; 71.7%, Previous; 71.7%, private sector wages forecast; 1.3%, Previous; 1.2% - For the final labor force release of 2022, Citi Research expect jobs growth to slow in Q4. Higher official interest rates, guidance that the OCR would reach 5.50% and weaker business confidence argue for fewer new jobs being created. The participation rate should remain high, however, with solid wages growth and reported labor shortages keeping a large number of citizens in the labor force. Mechanically, Citi Research have the unemployment rate rising from 3.3% to 3.4%, but this remains historically low and below what the RBNZ considers a sustainable unemployment rate. With labor shortages, wages growth is likely to remain elevated. Citi Research forecast private sector wages growth of 1.3%, which would bring yearly wage cost inflation to 4.3%.

• Canada GDP by Industry MoM (Nov) – Citi: 0.1%, median: NA, prior: 0.1%,GDP YoY – Citi: 2.3%, median: NA, prior: 3.1% - Citi Research expect a 0.1%MoM increase in GDP by industry in November, in line with Statistics Canada’s preliminary estimate but with risks of GDP remaining flat on the month. While still running somewhat below potential, GDP growth has been stronger than the BoC initially expected over the last few quarters of 2022. Citi Research currently expect a 1.5% (QoQ SAAR) increase in Q4 GDP, similar to the BoC’s 1.3% forecast that was upwardly revised compared to October. Services sectors continue to grow at a solid pace, with less weakness in sectors like construction than we would have expected given weak housing. Even activity in the real estate sector could stabilize in late-2022 with early signs that housing demand could be bottoming as mortgage rates possibly reach a peak. While inflation data will remain the most important for the BoC, activity data, with upside risks into 2023, will be important in their assessment of excess demand.

• China Manufacturing PMI January: Citi Forecast 50.2, Consensus 49.9, Prior 47.0: With earlier-than-expected reopening, the Chinese economy is on the track of earlier-than-expected recovery. Vice Premier Sun Chunlan recently commented that China’s infections could have fallen to a relatively low level ahead of the Chinese New Year holiday. Peaking Covid infections could have set the stage for economic recovery. That said, there could be downside risks that keep the PMI subdued. The earlier Chinese New Year holiday this year could cause larger disruptions to production activities. Covid infections could have sent migrant workers back home earlier this year. There could also be disruptions from the cold weather in January.