National CPI inflation in Japan accelerated from 3.62% to 4.03% in January. Governor Ueda alluded to the fact that the rise in food prices may not be so temporary and could feed through to higher inflation expectations. Disregarding the rise in food and energy prices (and shelter) can backfire politically, as observed with the widespread losses suffered by incumbents in elections last year, and rising anti-immigration rhetoric. In addition, compensation of employees jumped 5.8% y/y in nominal terms and 3.3% y/y in real terms in Q4. Record tourism is adding to inflationary pressures, notably for food and accommodation.
In Europe, climate change, higher defence spending & demographics will continue to exert pressure on the public finances in the coming years. The ramp up in defence spending, and loosening of the Eurozone’s fiscal rules to accommodate this, will be an important, additional source of upward pressure on Eurozone bond yields in the coming years. Long-term borrowing costs for Germany and the UK, for example, have remained elevated. In the UK, borrowing in the first 10 months of the current fiscal year totalled £118.2bn, which is £11.6bn above the same period last year, and £12.8bn above the OBR’s October forecast.
Without a significant improvement in the supply side of the UK economy, inflationary tendencies in the economy will persist. This week’s UK CPI report revealed that headline inflation accelerated from 2.50% to 2.98% in January. CPI inflation is projected by the Bank to reach 3.7% in 2025 Q3. Some BoE policymakers continue to strike a dovish tone, but long-dated gilts will struggle to outperform in a stagflationary environment, particularly with ongoing fiscal largesse.
