Japan’s annual core consumer inflation ticked up only marginally in October despite the boost from a sales tax hike during the month, suggesting weak household sentiment is keeping companies from passing on the higher costs.

Official data underscores the challenge the Bank of Japan (BOJ) faces in firing up inflation to its elusive 2% target, as soft global demand and the US-China trade war cloud the outlook for the export-reliant economy.

The nationwide core consumer price index (CPI), which includes oil costs but excludes volatile fresh food prices, rose 0.4% in October from a year earlier, government data showed on Friday.

That matched a median market forecast and followed a 0.3% increase in September.

Excluding the impact of the sales tax hike rolled out in October and the introduction of free child-care, annual core consumer inflation was 0.2% in October, slowing from 0.3% in September.

Yasunari Ueno, chief market economist at Mizuho Securities, expects inflation to stagnate and force the BOJ to maintain its ultra-loose monetary policy for a prolonged period, given weak services prices.

“It’s nearly impossible for consumer inflation to sustainably hit 2% in Japan,” he said.

Prime Minister Shinzo Abe proceeded with a twice-delayed sales tax hike in October to 10% from 8% as part of efforts to rein in Japan’s huge public debt.

The boost from the tax increase was offset partly by the introduction of free child-care, which is aimed at easing the pain on households from the higher levy.

While rising labour and raw material costs pushed up the price of dining out, electricity bills pushed down CPI for the first time in nearly three years due to falling fuel costs, the data showed.

However, analysts said the data also showed the tax hike has so far not had the sort of negative impact on consumption that a similar hike in 2014 did in welcome news for policymakers.

“The muted rise in inflation in October supports our view that the recent sales tax hike won’t derail consumer spending,” said Marcel Thieliant, senior Japan economist at Capital Economics.

Japan’s economy ground to a near standstill in the third quarter with growth at its weakest in a year as the US-China trade war and soft global demand knocked exports, keeping pressure on policymakers to ramp up stimulus to bolster a fragile recovery.

Japan’s factory activity shrank for a seventh consecutive month in November, as domestic and export demand remained in the doldrums and reinforced the challenge facing policymakers trying to prop up an economy growing at its slowest pace in a year.

The Jibun Bank Flash Japan Manufacturing Purchasing Managers’ Index (PMI) edged up to a seasonally adjusted 48.6 from a final 48.4 in the previous month.

The index remained below the 50.0 threshold that separates contraction from expansion for a seventh month. If the final reading due early next month confirms the contraction, it will mark the longest such run since a nine-month stretch from June 2012 to February 2013.

Friday’s PMI survey showed key activity gauges such as factory output and total new orders shrank again, though at a slower pace than in the previous month, while the backlog of work slipped to a level not seen since late 2012.

“Slack in export demand, the protracted US-China trade war and limited policy levers stack up against the chances of an improvement in Japan’s economy,” said Joe Hayes, economist at IHS Markit, which compiles the survey. “Without any drive from the service sector, a quarterly contraction in Q4 seems highly likely.”

Data last week showed Japan’s economy ground to a near standstill in the third quarter with growth at its weakest in a year as the U.S.-China trade war and soft global demand knocked exports.

The PMI follows recent calls by Japan’s ruling coalition lawmakers for an extra budget that would include $92 billion in spending to support slowing growth and ensure a fragile economic recovery remains on track.

Activity in the service sector grew, though the pace of expansion was markedly slower than during the first nine months of the year, before a sales tax hike to 10% from 8% came into effect last month.

The Jibun Bank Flash Japan Services PMI index edged up to a seasonally adjusted 50.4 from October’s 49.7, partly thanks to an improvement in business expectations, which hit its highest since early 2018.

However, “with manufacturing malaise still strikingly apparent, PMI-implied growth rates in the service sector are insufficient to offset Japan’s industrial woes,” IHS Markit’s Hayes said.

Reuters