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Japan wholesale prices slide, deflation beckons

Japanese wholesale prices marked their biggest annual fall in nearly six years in February in a sign that Japan faced broader and deeper deflation than one merely reflecting the one-off effect of sliding oil prices.

In another gloomy signal from the global financial crisis, Japanese core machinery orders fell 3.2% in January as companies cut spending in response to a global downturn that has pushed Japan into its worst recession since World War Two.

Wholesale prices fell 1.1% in February from a year earlier after a 0.3% drop seen in January, and February consumer price report due later this month is expected to show deflation was spreading to consumer prices.

“We think core consumer prices will start falling in February and the fall could reach around 2%,” said Hiroshi Watanabe, senior economist at Daiwa Institute of Research.

“If company earnings keep falling, consumers expectations for deflation could strengthen,” he said.

Annual consumer price inflation slowed to zero in January, putting the world's second-biggest economy on course for its second bout of deflation in recent history after a mild bout from the late 1990s to mid 2000s.

The central bank forecasts two years of deflation but economists are split about whether this will become a chronic problem, where falling prices prompt consumers to delay spending, pushing prices down further and eroding economic growth.

While retreating oil prices led the price declines, costs of some finished products such as computers, electrical machinery or textiles were also falling and the pace of the declines was picking up for a number of categories, the data showed.

“Price declines are spreading from materials to other goods, and consumer prices are likely to start falling. Japan is likely to enter a mild deflationary period,” said Azusa Kato, an economist at BNP Paribas.

Japan's economy is on course for its longest recession in modern times as a collapse in export demand is prompting companies such as Toyota Motor Corp and Sony Corp to slash jobs and scale back investment in factories.

The stock market shrugged off the data, however, and the Nikkei share average gained 4.6% on Wednesday, with banking shares buoyed by hopes that Citigroup will return to profit in the first quarter for the first time since the third quarter of 2007.

But with shares still lurking not far from 26-year lows, the Japanese government, which has already proposed its biggest budget ever to revive the economy, faces calls from ruling party lawmakers to take additional measures to support growth.

Falling oil and other commodity prices have eased costs for Japanese firms, but have stoked fears that price falls and weak demand could feed each other in a vicious deflationary spiral.

The final price companies charge each other for goods fell 3.1% from a year earlier, the largest decline since February 2001, with the technology price falls a big factor.

Economists view final prices as a rough guide to likely pressure on prices in stores, feeding into consumer prices.

The annual slide in wholesale prices was the biggest since June 2003, although it almost matched the median forecast from economists for a 1.2% fall.

“Wholesale prices will continue to fall toward next year as companies are facing growing pressures to cut prices of consumer goods such as electronic items, heightening the risk of deflation,” said Takeshi Minami, chief economist at Norinchukin Research Institute.

While the drop in core machinery orders in January was slightly smaller than a median forecast for a 4.5 percent decline, few analysts are optimistic about the outlook for capital spending.

“The data still confirmed that companies keep cutting capital spending as their profits deteriorate,” Minami said.

The meltdown of global financial markets has pushed the United States, Japan and the euro zone into recession and slowed growth in China and other emerging economies.

Many economists expect Japan's export-reliant economy to keep shrinking well into this year - the longest such slide on record. (Reuters)