Japan Wholesale Prices Fall, Deflation Looms

Japanese wholesale prices fell in the year to January, the first such drop in five years, bringing the world's second-largest economy closer to its second bout of deflation in a decade as the economy dives deeper into recession.

CNBC.com

The threat of deflation is particularly strong in Japan, where already-weak domestic consumption is coming under pressure from collapsing exports as the global financial crisis has sent much of the rich world into recession.

"The fall in inflation is mainly due to drops in fuel and material prices as well as the strength of the yen at the moment," said Naoki Iizuka, senior economist at Mizuho Securities, but he warned the deflation would go beyond a short-term price shock.

"In the latter half of this year, prices will come under pressure more from the widening output gap as the economy deteriorates."

Wholesale prices fell 0.2 percent in January from a year earlier, less than six months after wholesale inflation hit a 27-year peak of 7.4 percent in August on soaring oil and commodity prices. Markets had expected a modest rise in prices of 0.3 percent.

The index on domestic final goods, a rough proxy for consumer price trends, fell 3.0 percent in January from a year earlier and one economist warned deflation may soon return to consumer prices.

"As we see weakness in corporate prices spreading to a wide range of sectors, it is also possible that consumer prices would fall into negative territory from the January data," Takeshi Minami, chief economist at Norinchukin Research Institute, said.

Core annual consumer inflation, which excludes volatile fresh food prices, slowed to 0.2 percent in December, tracking sliding oil prices.

So-called core-core prices, which strip out both energy and food prices and is similar to the core index in many other countries, was flat, compared to a 1.8 percent rise in the core U.S. CPI in the same month.

The Bank of Japan has forecast two years of deflation in Japan and economists say it is likely to return soon, given a widening output gap as demand falls and factories lie idle.

Japanese industrial production has plunged to levels not seen since the late 1980s, as exports of cars, auto parts and electronics dive.

Data due next week is expected to show Japan's economy shrank at its fastest pace since 1974 in the final three months of 2008.

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With much of the developed world seen contracting at least until the next quarter, many expect the Japanese economy to start a slow recovery only later this year.

Japanese core consumer prices fell slowly for several years from late 1990s following the country's banking crisis.

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