Japan closes output gap, but prices fail to budge
Supply drops below stagnant demand as weak pay growth dampens consumption
TOKYO -- Japanese demand has surpassed the nation's output capacity in two straight quarters for the first time in three years, yet the economy still lacks a spark as stubbornly low wages block the government's long-awaited virtuous cycle.
The difference between actual and potential gross domestic product -- in other words, total demand for goods and services versus total output capacity -- is known as the GDP gap, or output gap. Cabinet Office data released Wednesday shows a positive GDP gap of 0.1% for October-December 2016 and January-March of this year, signaling higher demand than supply.
But this latest report introduced changes to the calculation method that lowered Japan's estimated production capacity, shifting the GDP gap by about 0.5 percentage point. The previous method pegged the gap for October-December at minus 0.4%, an 11th consecutive quarter of supply outstripping demand. The streak dated to April-June 2014, when demand fell off after a spike ahead of an April consumption tax hike.
The gap for fiscal 2016 as a whole came in at zero, escaping negative territory for the first time in three years.
The excess capacity hampering businesses, due to the bursting of Japan's economic bubble in the early 1990s and last decade's global financial crisis, is believed to have contributed to the ensuing deflation. Conversely, higher demand should benefit the economy, weakening deflationary pressures and buoying prices.
A positive GDP gap is one of the government's four criteria for beating deflation. If demand consistently outweighs supply, sellers of goods and services find it easier to raise prices. Higher profits should encourage businesses to boost wages, fueling consumer spending and driving further price hikes.
Bank of Japan Gov. Haruhiko Kuroda has expressed confidence that such a virtuous cycle is in progress. The central bank said in April that by its reckoning, the GDP gap turned positive in the July-September quarter. This alignment with the government's view suggests that "a declaration of victory against deflation is getting closer," said Takuya Hoshino of the Dai-ichi Life Research Institute.
But even if Japan fights off deflation, price growth shows little sign of picking up steam. The consumer price index, excluding volatile fresh foods and energy, remained flat on the year in April.
Stagnant wages are a factor. Cash earnings, equivalent to nominal pay per capita, edged up just 0.5% on the year in April even as electricity and gas rates rose, discouraging households from loosening their purse strings. Far from hiking prices, major retailers sensitive to such shifts toward thrift have lowered prices on daily necessities since spring.
But Japan's current labor shortage carries the potential to jar prices out of the doldrums. Companies scrambling to lure talent are focusing on hiring full-fledged staff rather than temps or part-timers. The ratio of openings for full-employee positions to job seekers hit a record high of 0.97 in April. A tighter market could drive companies to lift wages, in turn boosting prices.
Yet Toru Suehiro, a senior market economist at Mizuho Securities, remains skeptical. "The demand shortfall ended because of a slump in potential GDP due to the labor shortage, rather than growing demand," Suehiro said.
Short-handed businesses are adjusting by boosting worker productivity. Manufacturers are adopting labor-saving innovations such as artificial intelligence, while restaurants are scaling back late-night hours.
"Companies will avoid actively raising wages until they have no more room to improve productivity," Suehiro said. "Inflationary pressures won't increase even without a labor shortage."