1.3%! Japan's February CPI falls for four consecutive months, hitting a nearly four-year low.

1.3%! Japan's February CPI falls for four consecutive months, hitting a nearly four-year low.

```

Japan’s inflation continues to cool, making the Bank of Japan’s rate hike path increasingly complicated.

Data released Tuesday by the Ministry of Internal Affairs and Communications showed the Consumer Price Index (CPI) rose 1.3% year-on-year in February, the lowest since March 2022, marking the fourth consecutive month of deceleration and falling below the Bank of Japan’s 2% policy target.

At the same time, the core CPI excluding fresh food rose 1.6%, below market expectations of 1.7%, also falling below the 2% target for the first time in nearly four years.

The slowdown in inflation was mainly due to government fuel subsidy policies, but surging energy prices triggered by the Middle East conflict pose new upside risks, adding greater uncertainty for the Bank of Japan as it assesses inflation trends. The Bank of Japan kept its benchmark rate unchanged at 0.75% last week, while warning of inflationary risks posed by the Middle East situation.

Core Inflation Falls Below Target, Rate Hike Timing Harder to Grasp

Core CPI rose by 1.6% year-on-year in February, down from January’s 2.0%, dropping below the Bank of Japan’s 2% target for the first time since March 2022, and lower than economists’ forecast of 1.7%.

Core CPI excluding fresh food and energy rose 2.5% year-on-year, slightly down from January’s 2.6%. This indicator is seen by the Bank of Japan as a better metric for gauging domestically-driven inflation.

According to Reuters, analysts expect the core CPI will remain below 2% for the next few months due to the continued impact of government fuel subsidies. New government gasoline price control measures this month could, according to analyst estimates, push core CPI down by as much as 0.5 percentage points.

Bank of Japan Governor Kazuo Ueda previously stated that if the bank becomes more confident that underlying inflation will stabilize near the 2% target, it will be ready for further rate hikes. He also said last week that the BOJ will announce a new price gauge before summer this year, excluding the effects of one-off policies such as fuel subsidies, to better measure underlying inflation trends — some analysts believe this move is aimed at providing justification for further rate hikes.

Behind the cooling of inflation, proactive government intervention is an important factor. During the campaign, Prime Minister Sanae Takaichi promised to pause the 8% food tax for two years, and the government rolled out a number of measures to ease cost-of-living pressures for residents, including fuel subsidies, which, while suppressing inflation data, also made it difficult for the Bank of Japan to accurately assess underlying inflation levels.

The Bank of Japan previously expected that, due to such policies, year-on-year consumer price increases could fall below 2% in the first half of this year. For fiscal 2026 (as of April 1), the bank’s forecasts for core CPI and “core-core CPI” are 1.9% and 2.2%, respectively.

Meanwhile, the energy shock from the Middle East conflict exerts upward pressure. According to CNBC, Stefan Angrick, Head of Economics for Japan and Frontier Markets at Moody’s Analytics, said the Middle East conflict is an “unsettling surprise”—a surge in commodity prices could trigger a supply shock and push up inflation. “For an energy and food importer like Japan, this is bad news.” He also pointed out that should the conflict end relatively quickly, the economic impact may be limited, but if it drags on, the blow will be much heavier.

Weak Economic Growth Increases Policy Trade-off Dilemmas

Slowing inflation coupled with weak economic growth further constrains the Bank of Japan’s policy space. Data shows Japan’s economy grew just 0.1% year-on-year in the fourth quarter of last year, down sharply from the third quarter’s 0.6%, barely avoiding a technical recession.

The Bank of Japan ended a decade of ultra-loose monetary policy in 2024 and raised rates several times, including a December hike, citing steady progress toward sustainably achieving the 2% inflation target. However, the continued deceleration in current inflation data has made the market more cautious about the timing of the central bank’s next rate hike.

The Japanese government’s ongoing price intervention measures continue to distort inflation data, making it more challenging for the central bank to gauge underlying inflation trends. Some analysts interpret Kazuo Ueda’s introduction of a new price gauge as an attempt by the central bank to find clearer justification for rate hikes amid policy noise.

Risk Warning and DisclaimerThe market involves risks and investments require caution. This article does not constitute individual investment advice, nor does it take into account the special investment objectives, financial situation, or needs of any particular user. Users should consider whether any opinions, viewpoints, or conclusions in this article are appropriate to their specific circumstances. Investments made accordingly are at your own risk. ```