By Tetsushi Kajimoto and Stanley White
TOKYO (Reuters) - Japan's economy took another knock as a gauge of business investment weakened, but the Bank of Japan remained unperturbed and is expected to release optimistic inflation projections as a swing voter on its board turned more confident about the growth outlook.
After racing past its developed country peers in the first half of last year, the world's third-biggest economy has stuttered in recent quarters as the effects of Tokyo's aggressive stimulus policies faded.
The loss of economic momentum was highlighted again on Thursday when data showed core machinery orders, a leading indicator of capital spending, declined 8.8 percent in February on the month, Cabinet Office data showed. It followed a 13.4 percent jump in January, the biggest rise since March 2013, and was much worse than the 3.0 percent drop seen in a Reuters poll.
All the same, the BOJ remained resolutely confident and its latest projections will show inflation is likely to reach a sustained rate of around 2 percent for at least two years from the middle of 2015, sources familiar with the central bank's thinking said. The new forecasts are due out on April 30.
The projections underlined the BOJ's strong conviction that consumer price inflation will meet its 2 percent goal by April next year, and reinforced the view that no imminent easing is on the horizon.
The central bank's confidence is in stark contrast to analysts, who have raised serious doubts that the target can be met, let alone sustained. A sales tax hike to 8 percent from 5 percent on April 1 is widely expected to chill demand and drag on growth.
But even pessimists in the BOJ's nine-member board, like former academic Ryuzo Miyao, are becoming more confident about the economic outlook.
Miyao, who has been warning that risks to the economy and prices were tilted toward the downside, on Thursday said they were now roughly balanced.
Miyao acknowledged that capital expenditure is lagging but said that consumption is strong enough to lead the economy.
"The timing of further stimulus might be delayed given the economy has not shown signs of slowing sharply," said Yoshiki Shinke, chief economist at Dai-ichi Life Research Institute in Tokyo. "Even if the BOJ were to act, it would take at least until the summer to determine how the economy fares."
Core orders data is a volatile series, but the weak outcome is not isolated as it joins a recent run of gloomy economic reports that has cast doubts about Prime Minister Shinzo Abe's reflationary policies.
Capital spending, private consumption and exports have lagged recently, and the sale tax hike has stoked worries that the hard fought progress to arrest years of deflation and economic stagnation may begin to unravel.
But BOJ's Miyao said Japan's economy can continue to grow above its potential after the temporary shock from the sales tax hike, and that the economy and consumer prices are moving in line with the central bank's forecasts.
WARY FIRMS, BULLISH BOJ
Miyao's remarks in a speech to business leaders in Okayama, western Japan, comes after Governor Haruhiko Kuroda dismissed market expectations on Tuesday that the BOJ could ease again soon.
Speaking later to reporters, Miyao went even further to say the economy could be performing better than he expected as the jobless rate hit the lowest in more than six years in February.
"A tight labour market could push wages up more than expected," Miyao said. "If this mechanism continues to work well, it's possible for the economic recovery to accelerate."
The central bank has stood pat since launching an intense burst of stimulus last April, when it pledged to accelerate inflation to 2 percent in roughly two years via aggressive asset purchases to beat deflation. And the BOJ has repeatedly said that Japan is on track to reach the price goal.
Critically, sources who cited the new projections said it will show a sustained inflation rate close to the central bank's 2 percent target, a major step in Tokyo's battle to overcome years of falling prices.
Still, there are some concern among analysts about the impact on growth from the tax hike.
"Capital spending may underpin the economy but I doubt it could be strong enough to serve as a key drive," Dai-ichi Life's Shinke said.
The Cabinet Office cut its assessment of machinery orders, saying the increasing trend is seen stalling, indicating a challenging outlook. Previously, it had said machinery orders were increasing as a trend.
The BOJ's tankan showed big firms expect to raise capital spending by just 0.1 percent in the current fiscal year, against a 0.2 percent rise seen by economists and a 3.9 percent gain in planned spending for the fiscal year that ended in March.
Analysts and policymakers expect the economy to contract in April-June due to a pullback in consumption after the tax hike, before returning to moderate growth in the following quarters.
(Additional reporting by Yoshifumi Takemoto; Editing by Shri Navaratnam)