Growth disappointments in Japan reinforce the need for structural reform, believes Benjamin Segal, head of Neuberger Berman’s Global Equity Team who comments below.
Japan’s third quarter GDP data came in much worse than anticipated, at -1.6% (year-over-year) versus a consensus expectation of +2.2%. This followed a -7.1% second-quarter GDP number in the wake of an increase in the country’s consumption tax on April 1. In reaction, Prime Minister Shinzo Abe has announced his intention to hold an early “snap election” of the country’s lower House of Representatives and to postpone a second scheduled value-added tax hike until 2017. In our view, the about-face on the tax increase puts the government’s credibility at risk in terms of fiscal discipline, but could also be viewed as an admission that “Abenomics” is not working.
Short-Term Success, Then Weakness
Putting events in context, the Abenomics program (specifically its monetary and fiscal stimulus “arrows”) has had some short-term success in driving Japanese equity markets, both during the early part of its launch (November 2012 to May 2013) and, more recently, since a Bank of Japan follow-on quantitative easing announcement at the end of October. However, the Japanese yen has continued to fall precipitously, leaving the currency at a six-year low versus the US dollar. In US dollar terms, Japanese markets have (despite a recent rally) been in negative territory since May 2013.
Two years into Abenomics, the Japanese economy is now shrinking and is likely to deliver two-year cumulative growth of less than 2%. We continue to believe that, for Abenomics to be successful over the medium to long term, Japan must implement significant structural reform measures (the “third arrow”), which have thus far been limited.
In respect to our investment viewpoint, we continue to find limited opportunities in Japan. The weaker currency should provide a boost to quality Japanese exporters, where our primary focus remains. However, it also means higher import costs, most significantly from US dollar-based energy and commodity products, where recent price drops have provided a marginal respite.
Given that Japan’s nuclear power plants remain closed three years after the Fukushima incident, with limited prospects for a complete re-start, Japan’s spending on energy in particular is undermining its current account situation and raising costs for consumers and industrial companies alike. Together with the recent consumption tax increase, the outlook for spending in Japan is bleak and underpins our caution with respect to most domestically focused Japanese businesses.