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UPDATE 3-Japan wholesale prices slide, deflation ahead

Published 04/13/2009, 02:14 AM
NWG
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* Wholesale prices fall most since 2002, more than forecast

* Weak domestic demand on top of falling commodity prices

* Pressure growing for BOJ to return to quantitative easing

By Yuzo Saeki

TOKYO, April 13 (Reuters) - Japanese wholesale prices fell at their fastest rate since 2002 in the year to March as weakening domestic demand on top of falling commodity prices drives Japan towards its second bout of deflation this decade.

With interest rates already almost at zero, analysts say the Bank of Japan will need to take more unconventional policy steps to help the world's No.2 economy grapple with its worst recession since World War Two.

"The BOJ has reached its limit in terms of conventional monetary policy moves," said Norihiro Fujito, general manager at Mitsubishi UFJ Securities.

"If prices continue to slide, the BOJ may need to expand its buying of government bonds and move towards quantitative easing. It may also broaden the range of corporate bonds it buys, relaxing its standards on credit ratings, for example."

Norinchukin Research Institute Chief Economist Takeshi Minami said the BOJ may be forced to do more to induce a fall in short and long-term interest rates in May or June when views on the economy will be bleaker due to such factors as weak corporate earnings and likely falls in consumer prices.

"Expectations for further BOJ steps will likely reach a peak in May or June," Minami said.

The Bank of Japan said last month it would increase its government bond buying by nearly a third to 21.6 trillion yen ($215.3 billion). Its move echoes steps taken by the U.S. Federal Reserve, which is buying $300 billion in Treasury securities over a six-month period, pumping cash into the economy.

Japanese wholesale prices in March were down 2.2 percent from the same month a year earlier, more than the median market forecast for a 1.8 percent fall, Bank of Japan data showed.

That followed a revised 1.6 percent fall in the year to February and was the third straight month of annual decline.

Analysts say it is inevitable that consumer prices will lapse back into deflation after flat annual figures for the years to January and February.

"Pressure on consumer prices will be strong at least for the first half of this year," said Junko Nishioka, chief Japan economist at Royal Bank of Scotland.

Wholesale prices fell for six years running from financial 1998/99 to 2003/04 as the Japanese economy struggled with an earlier financial crisis. Consumer prices declined throughout that period and then for one year longer.

March CPI figures are due out at the end of this month.

Falling steel prices were the biggest contributor to a 0.2 percent month-on-month decline in wholesales prices in March, reflecting weak demand from the construction and automobile sectors, a BOJ official said.

Processed food prices also fell significantly, reflecting consumers' strong inclination for cheaper merchandise.

"Wholesale prices showed there is widespread weakness in final demand in light of the recession," the official said.

Overall final goods prices, which track prices of final products charged to businesses, fell 2.6 percent in March from a year earlier. Domestic final goods prices fell 1.7 percent.

Prices of capital goods used for production facilities fell 0.9 percent, and consumer goods prices also slipped 3.5 percent in March from a year earlier, but the pace of decline has slowed as the impact of falling commodity prices subsided, the BOJ said.

Wholesale inflation quickly lost steam after hitting a 27-year peak in August, as the worsening global financial crisis sent commodities prices tumbling.

Now, with both domestic and external demand faltering, Japan could be the slowest among major economies to recover from recession even as the government scrambles to pull the economy out of the deepening recession.

For the financial year that ended in March, wholesale prices rose 3.3 percent, marking the largest rise in 28 years, due to a surge in commodity prices in the first half of the year.

But Minami said the main factor for wholesale price moves is shifting to the shortfall in demand from oil prices.

The BOJ is forecasting that consumer prices will fall 1.1 percent in fiscal 2009/10 and 0.4 percent in fiscal 2010/11. It is due to update those forecasts on April 30.

Japan's economy contracted 3.2 percent in the last quarter of last year and plunging business confidence has raised fears that the situation is getting worse.

The world's No.2 economy has been more severely hit by the global recession than other major economies due to its heavy dependence on exports.

Japan's government on Friday announced new stimulus spending of 15.4 trillion yen ($154 billion), equivalent to 3 percent of GDP, to help lift the country out of its deepest recession since World War Two. (Editing by Hugh Lawson)

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