John Greenwood, Invesco chief economist, says in his latest quartely outlook that the economies of emerging Asia and Latin America will provide the strongest growth.
The new LDP government led by Shinzo Abe has made significant changes to economic policy since the Lower House election in December and these will continue through 2013. Already the changes in monetary and exchange rate policy are starting to have an impact; fiscal policy changes should follow; and the third element of Abe’s programme includes structural reforms and deregulation. Separately on the political front, constitutional changes are likely to be introduced after the July elections for the Upper House.
Anticipations of PM Abe’s return to power led the yen exchange rate to fall steeply from around 76 yen per US$ to 95 yen. This helped promote a strong rally on the Tokyo stock exchange, encouraged by the expected changes in policy at the Bank of Japan (BOJ). Initially the Abe administration effectively demanded the BOJ raise its selfimposed inflation target to 2%, and subsequently Mr Abe has appointed Haruhiko Kuroda as the new Governor, along with two new deputy-governors. The BOJ will no doubt embark on more aggressive asset purchases and balance sheet expansion, but the big question is whether the BOJ can induce changes in behaviour amongst the commercial banks whose lending has been static or falling for most of the past decade, or amongst the firms and households that have been unwilling to increase their indebtedness by borrowing more.
One of the underlying problems is that neither households nor financial corporations including banks have done much de-leveraging over the past few years (see fig 5), and debt ratios remain high. In the non-financial corporate sector there was a substantial reduction of indebtedness between 1998 and 2005, but since then there has been very little further change, suggesting that most sectors have been happy to maintain their current debt-to-income ratios unchanged for the past seven years. Expanding the BOJ’s balance sheet should not be difficult, but inducing other sectors to join the expansive mood may prove a much tougher challenge.
The Cabinet Office revised the GDP figures for 2012 Q4 from a decline to a small upturn, reflecting higher estimates for PCE and fixed investment. For the year as a whole the revised overall figure of 2.0% real growth benefitted from the downturn in earthquake-affected 2011. Looking ahead the weaker yen and a gradual easing in monetary policy should ensure positive growth, but consensus expectations are for a modest 1.2% real GDP growth. Ironically the weakness of the yen and higher imported raw material prices may give the impression that the BOJ is succeeding in attaining its target, but the real test will come over the longer term when it becomes clear whether the new monetary policy is percolating through to the commercial banks, companies and households. My forecast is for just 0.1% inflation for the year as a whole.
The other two economic objectives of the Abe government include a more expansionary fiscal policy focused on construction projects, and structural reforms or deregulation. The former reverses the previous DPJ administration’s mantra of “from concrete to people” (a redirection in public spending away from public works to social security programmes) – in spite of the fact that these policies were singularly unsuccessful in the 1990s. The plan is to allocate ¥200 trillion over 10 years for public works, starting with a package of “emergency economic stimulus measures” amounting to ¥20.2 trillion (almost one-quarter the size of the annual budget) in the hope of creating 600,000 jobs and boosting real GDP to 2% growth. In the next fiscal year(from April 2013) it is proposed to raise public works spending to ¥5.5 trillion, compared to ¥4.6 trillion in the 2012 fiscal year.
The structural reforms and deregulation programme will require the LDP to win a majority in the Upper House at the July elections, but even then none of the structural reforms or deregulation will be easy. Joining the US, Canada and Australia in the Trans-Pacific Partnership would imply a major shake-up of Japan’s politically powerful and highly protected farming sector and a commitment to open up service industries such as insurance to foreign competition. Similarly, relaxing healthcare and labour market regulations that currently stifle growth or allowing more immigration and older-age employment would all face formidable opposition from vested interest groups.
If PM Abe continues to be as popular as his recent 70% approval ratings suggest then he may also be able obtain the two-thirds majority that he needs in the Upper House to amend Japan’s post-war constitution and end some of the strictures imposed by General MacArthur under the US Occupation after the Second World War. Japan under Mr Abe faces some momentous decisions over the next few quarters.