Consumer inflation in Japan continued accelerating slightly in the core reading in July after the government ended 18-month long utility subsidies in June for July bills and the killer heatwave drove up air conditioner prices, but a similar fiscal support is set to ease inflation for three months, starting with electricity and natural gas bill payments in September.

The core CPI (excluding fresh food prices), closely watched by the Bank of Japan for its policy stance, rose 2.7 percent on year in July, as expected, after the pace of increase picked up to 2.6 percent in June from 2.5 percent in May. The year-over-year increase in the total CPI was steady at 2.8 percent after rising at the same pace in the previous two months, just below the median forecast of a 2.9 percent increase.

At the same time, inflation slowed in one of the three key measures as the upward move in overall energy prices was partly offset by easing markups in processed food as well as slower gains in hotels and mobile phone communications charges.

The core-core CPI (excluding fresh food and energy), a key indicator of underlying inflation, rose 1.9 percent in July, moderating from 2.2 percent in June, as expected. It is the slowest pace in 22 months. The annual rate for this narrow indicator had been at or above 3.0 percent from December 2022 until February 2024, partly because it didn't reflect the price-cutting effects of the government subsidies aimed at keeping utility costs lower for households that were already hit by elevated costs for essentials.

The July CPI data is unlikely to change's the Bank of Japan stance of maintaining its accommodative monetary conditions to support the economy and sustained wage hikes in the process of gradually raising the target for overnight interest rates toward 1 percent from around zero.

In the July data, the combined upward pressure from energy and durable goods, which was 0.33 point higher than in June, was partly offset by the combined downward effect of easing markups in processed food, hotel feels and mobile phone plans, which was 0.23 point lower than the previous month.

Econoday's Relative Performance Index stands at plus 6, just above zero, which indicates the Japanese economy is performing more or less as expected after outperforming with a slight margin. Excluding the impact of inflation, the RPI is at plus 4.

Consumer inflation in Japan is expected to continue accelerating slightly in the core reading in July, reflecting the full impact of a scheduled end to the 18-month utility subsidies, while easing in two of the three key measures, thanks to slowing processed food markups.

The core CPI (excluding fresh food prices), key to the Bank of Japan's policy stance, is forecast to rise 2.7 percent on year after the pace of increase picked up to 2.6 percent in June from 2.5 percent in May and 2.2 percent in April. The year-over-year increase in the total CPI is forecast at 2.7 percent in July, down slightly from 2.8 percent seen in the previous two months. Underlying inflation measured by the core-core CPI (excluding fresh food and energy) is also expected to moderate to 1.9 percent after picking up to 2.2 percent in June from 2.1 percent in May.

The government halved subsides for electricity and natural gas supplied to households and businesses in May that was reflected in June utility bills. The program to help cushion the impact of elevated energy costs that began at the start of 2023 was terminated at the end of June, which will push up energy costs further in the July CPI data. In the face of sluggish public approval ratings, the government has announced that it is reviving a similar scheme for three months ending in October when high temperatures are expected to boost the use of air conditioners.

The Consumer Price Index (CPI) is a measure of the average price level of a fixed basket of goods and services purchased by consumers. Annual changes in the CPI represent the rate of inflation.

The CPI has been in the spotlight as Japan struggled to make its way out of deflation. The report tracks changes in the price of a basket of goods and services that a typical Japanese household might purchase. The preferred measure is the year over year percent change. Markets will typically pay more attention to the core measure that excludes only fresh food because volatile food prices can distort overall CPI. A second core measure that excludes energy as well is also available. As the most important inflation indicator, the CPI data are closely monitored by the Bank of Japan. Rising consumer prices may prompt the BoJ to raise interest rates in order to manage inflation and slow economic growth. Higher interest rates make holding the yen more attractive to foreign investors, and this higher level of demand will place upward pressure on the value of the yen.

An investor who understands how inflation influences the markets will benefit over those investors that do not understand the impact. Inflation is an increase in the overall prices of goods and services. The relationship between inflation and interest rates is the key to understanding how indicators such as the CPI influence the markets and your investments.

Inflation (along with various risks) basically explains how interest rates are set on everything from your mortgage and auto loans to government securities. As the rate of inflation changes and as expectations on inflation change, the markets adjust interest rates. The effect ripples across stocks, bonds, commodities and your portfolio, often in a dramatic fashion.

By tracking inflation, whether high or low, rising or falling, investors can anticipate how different types of investments will perform. Over the long run, the bond market will rally (fall) when increases in the CPI are small (large). The equity market rallies with the bond market because low inflation promises low interest rates and is good for profits.