Will Japan join the global inflation debate?
Will Japan join the global inflation debate?
The return-to-inflation debate is heating up globally. UBS economists and macro strategists explored this in two recently published Q-series reports.
Following up on the same theme, in this note we discuss the possibilities of different inflation scenarios for Japan. Our base case is that a relatively quick economic recovery in the country with strong global reopening could lead to mild inflation in H2 2021. But this is unlikely to reach even 1%. If we are wrong and inflation does rise structurally, our global strategists expect Japan to be a relative outperformer within the global space, while a regime shift may produce confusion in rates and FX markets with the Bank of Japan’s (BoJ) exit from the current policy framework. Here we explore all such inflation scenarios and their implications for policy making, FX, rates and equities. Particularly for the “return to mild inflation” scenario, we surveyed all our Japanese sector specialists to analyse how this may impact their sectors. Using a bottom-up approach, we then provide our most and least favoured lists for companies under the modest inflation regime.
Two likely scenarios, three unlikely scenarios: How will monetary policy react?
Two likely scenarios, three unlikely scenarios: How will monetary policy react?
In the next two to three years, we expect Japan's economy will continue to recover with global reopening. We thus think mild inflation like that before the pandemic is likely to return. However, the government's policies, especially to raise productivity, and a persistent deflation mindset may leave the economy in mild deflation, like before 2013 pre-Abenomics. In either case, we do not think fiscal (and monetary) policies will change much as the public (i.e., politics) tends to dislike inflation. There are also three unlikely scenarios: 2% inflation, recession and deflation, and stagflation. Policy reactions under these scenarios could be aggressive and possibly more experimental.
Market reactions are likely to be muted under likely scenarios
Market reactions are likely to be muted under likely scenarios
Modest inflation is unlikely to make a big difference to the Japanese Yen (JPY), particularly if elsewhere we see a similar trajectory of growth and inflation dynamics. In rates, the BoJ is highly likely to continue with its current policy framework with the 10y target at around 0bp, but could allow greater flexibility.
