Salary increase approaching 5%? UBS predicts that "Spring Struggle" may exceed expectations, significantly impacting the Bank of Japan.

In recent times, there have been rumors in the Japanese market, with the Bank of Japan canceling negative interest rate speculations in March, leading to a continuous rise in the yen and a correction in the bullish Japanese stocks. The annual spring wage negotiations (Shunto) results are set to be announced next Monday, which will be a key factor influencing the Bank of Japan's actions.

According to a report by UBS Group AG on March 8th, this year's wage increase in Japan is expected to reach 4.3%, possibly even hitting 5%, significantly higher than last year's 3.6%.

UBS Group AG pointed out that, given the 5.85% wage increase demand proposed by Japan's largest labor union, an increase from last year's 4.9%, if this demand is met, the actual wage growth rate could reach around 5%.

However, even if the "Shunto" exceeds expectations, UBS Group AG still believes that April would be a more appropriate time to cancel negative interest rates, rather than March. Additionally, UBS Group AG also mentioned that the current market expectations for a rate hike by the Bank of Japan are overly conservative, and the rate hike intensity this year may exceed market expectations.

Japan's largest labor union is expected to announce the preliminary results of "Shunto" on March 15th, which based on past experience, may be disclosed after 6 p.m. on the same day. The Bank of Japan will hold its March monetary policy meeting on March 19th, followed by the April monetary policy meeting on April 26th. Furthermore, Japan's final GDP for the fourth quarter will be released next Monday.

Is the Bank of Japan likely to continue raising interest rates?

The outlook for wage growth will be a key factor for the Bank of Japan to assess inflation trends. According to UBS Group AG's forecast, if there is a significant wage increase, it is expected to push up service price inflation and support a rebound in real consumption.

Regarding the timing of canceling negative interest rates, UBS Group AG firmly believes it is more likely in April, and points out that the short-term market focus will be on when the Bank of Japan will raise interest rates, but more importantly, the policy direction after the central bank ends its negative interest rate policy and yield curve control.

The market generally expects that due to the Federal Reserve's expected rate cuts this year, the Bank of Japan is unlikely to raise rates above 0.0% (or 0.1%) before April 2025. However, if the U.S. economy experiences a soft landing, the current market expectations may be too conservative.

The upward revision of wage growth expectations will not only boost service price inflation but also drive a recovery in real consumption. As long as these two conditions and the external environment (especially the U.S. economy) remain stable, the Bank of Japan will continue to raise interest rates.

Japan's fourth-quarter GDP is expected to be revised upwards

The UBS Group AG report also indicates that the actual GDP growth rate for the fourth quarter of last year may be revised from -0.4% to 1%. Corporate capital expenditures in the fourth quarter of 2023 are stronger than expected, which may lead to a significant upward revision of GDP. It is expected that the actual GDP growth will be revised from the previous estimate of -0.4% to around 1%.

On the consumer front, UBS Group AG holds a cautiously optimistic view for the future. They believe that with the increase in real wages and improved consumer sentiment, consumption is expected to rebound in the second quarter, especially with the decided income tax cuts and increased benefits for low-income families taking effect in June.

Regarding inflation, UBS Group AG points out that even though the inflation rate is expected to fall in the next two years, the core inflation rate, excluding food and energy, is expected to remain close to 2%. The core CPI (excluding energy prices) is forecasted to be 1.9% and 1.8% at the end of 2024 and 2025 respectively, which is sufficient to support the normalization of the Bank of Japan's policy.