The Japanese economy is generally expected to grow by around 0.6%/yr in calendar 2016, a slight pick-up from growth of 0.5%/yr in 2015.
The Japanese economy is generally expected to grow by around 0.6%/yr in calendar 2016, a slight pick-up from growth of 0.5%/yr in 2015. For 2017, the expectation is that growth will improve a little further, to around 0.8%-1.0%/yr. Growth is being supported by the 2016 easing of both monetary and fiscal policy. This is helping see a (very modest) recovery in private consumption and some gains in business investment. Net exports are expected to be a negative in both 2016 and 2017 - reflecting the recent strength of the Yen and weaker global demand.
On inflation, private sector economists generally see the core CPI (ex-food) being a small negative in 2016, ie. around -0.2%/yr, while for 2017, core CPI is expected to rise a little, but only to around 0.3%/yr-0.5%/yr.
As a result, while the Bank of Japan (BoJ) continues to forecast inflation rising to 2% next year, almost nobody in the private sector believes that. In fact, I was told, 60% of economists surveyed by Bloomberg believe inflation in Japan will never hit 2% again. The BoJ did highlight to me, however, that inflation in Japan had been negatively impacted by a number of exogenous or external shocks in recent years; the collapse in the price of oil, the initial increase in the Consumption Tax from 5% to 8% and the economic weakness this caused and weaker-than-expected growth in Japan's trading partners.
When I discussed the inflation outlook with the BoJ, I made the case that the global model for inflation was changing, with more supply than demand of most goods around the world, an increase in global labour supply, aging demographics and technology all acting as structurally downward forces on inflation. The reply from the BoJ was a little terse - "I hear your opinions and I have nothing to add."
The general market expectation is that when the BoJ publishes their new economic forecasts in early November that the forecast return to 2% inflation will be delayed until 2018 - rather than the current forecast of 2017. Indeed, for me even a 2% inflation forecast for 2018 would seem overly optimistic given the ongoing decline in Japan's potential GDP growth rate (discussed below) and the lack of higher inflation expectations. I will discuss the policy implications for the BoJ of this inflation outlook in Blog 3.
My meeting with the Ministry of Finance (MoF) focused on both the fiscal policy outlook and some other key aspects of the outlook for Japan. The MoF is sticking with their target that Japan's primary budget deficit will be back in balance by FY2020. As at FY2016, however, the primary budget is in deficit by around -3.1% of GDP and the latest estimate for FY2020 is a deficit of -1% of GDP. Despite the short-fall against target, there are signs that Japanese budget position is improving.
Interestingly, the MoF's base case is that their funding costs will rise in the years ahead, assuming that 10yr JGB yields will move from 0.8% in 2017 to 1.5% in 2020. When I pointed out that this was not consistent with the BoJ's target of holding the 10yr Japanese government bond (JGB) yield at 0%, the MoF just repeated the line that they are assuming the BoJ's policy is only 'temporary'. However, if the BoJ is successful in holding 10yr JGB yields at 0%, or even lower, in the years ahead (as I expect they will) then Japan's budget will improve further and the funding 'costs' of running a budget deficit will be close to negative, ie. the MoF will be paid to borrow.
One of the interesting discussions I had with private sector economists, the BoJ and the MoF centred around Japan's potential growth rate. Estimates of potential growth ranged between 0%/yr and 0.5%/yr, well down from around 2.5%/yr in the 1990's and around 0.7%/yr pre-GFC. The key aspects behind this substantial decline in potential economic growth were, not surprisingly, the ongoing decline in Japan's population (ie. a negative population growth rate), low labour force participation rates and very weak productivity growth.
While there seems to be a general acceptance that not much can be done to reverse the trend lower in population (ie. large scale immigration is not going to happen for cultural reasons) there at least is ongoing efforts by the government to improve both productivity and labour force participation. Indeed, one of the areas of greatest focus for the MoF is the program known as 'Work Style Reform', with the stated aim of improving both female labour force participation (through more support for child and aged care and maternity leave arrangements) and seniors (ie. over 65) labour force participation. There is also an increasing focus on changing the 'job for life' culture and establishing a better work-life balance. I was interested to learn that of the 1.3 million jobs created in Japan from 2012-2015, 980,000 of these jobs were for females in part-time work (also known as 'non-regular').
PM Abe is said to be very focused on this issue, especially as it relates to income inequality and the political implications of this that have been seen in places like the UK and the US. Time will tell if these policies have any impact. In the mean-time, Japan’s long-run potential economic growth rate will likely remain very subdued at around 0%/yr-0.5%/yr, with the central forecast of this range at just 0.2%/yr.
One of the factors behind this low potential growth rate could also be a lack of 'entrepreneurial spirit', as the BoJ put it to me. Among the G7, surveys show Japan with the lowest level of 'entrepreneurial spirt' (the US is highest, with the UK second), while Japan has the highest 'fear of failure'. There remains a feeling that the old-established firms are 'respected' by the Japanese people, while new companies do not enjoy this same level of respect and this is one of the factors behind a lack of 'creative destruction' in Japan.
In terms of politics, there is ongoing speculation in Japan that Prime Minister Abe will call (yet another) snap election for the Lower House in early 2017. PM Abe's timetable is likely going to be as follows. He calls a Lower House election in early 2017 - just as the monetary and fiscal policy easing of 2016 are having maximum impact on the economy. If he wins this election his government will be in place for another four years. Abe then presses for another fiscal stimulus package later in 2017, and encourages the BoJ to ease monetary policy further around the same time. PM Abe will then turn his attention to ensuring that by mid-2018 the Liberal Democratic Party (LDP) that he leads changes their own rules to allow Abe to remain as leader of the party for a third three year term, ie. nine years, as currently the LDP rules limits leaders to only two terms, ie. six years. Once this change is in place, Abe would then be widely expected to remain as Prime Minister until 2021 - seeing him through the 2020 Tokyo Summer Olympic Games (not to mention the 2019 Rugby World Cup).
Speaking of the Olympics - things have not been going well. There has been controversy over the main Olympic Stadium, with the design changed a number of times, and the completion date pushed back so far that the new stadium will now not be ready for the 2019 Rugby World Cup. In addition, there has been significant cost blow-outs for the Games and many venues, threats to move the sailing and rowing venue to Seoul, Korea (given a lack of progress on this venue within Tokyo), questions marks over copyright of the official logo for the 2020 Games - which had to be changed, and a general sense of unpreparedness. Things do now, seem to be getting back on track, with International Olympic Officials in Tokyo at the same time I was there and seemed to have left with more confidence that the Tokyo 2020 Olympics are back on track.
