Friday, March 1, 2013

The Fate of Abenomics

Tristan Liu

The Background of the Abenomics

          The so called "Abenomics" mainly refers to the monetary easing policy introduced by Shinzo Abe, the current Prime Minister of Japan. In addition to the monetary easing policy, the Abenomics also includes fiscal policies and long-term economic growth strategies to further encourage private investment in Japan.

          The detailed policies include inflation targeting at a 2% annual rate. In addition, fiscal spending will increase by 2% of GDP while the consumption tax will be gradually increasing to 7% and higher to further stabilize the fiscal soundness. Finally, it is widely believed that the long-term economic growth strategies in Abe cabinet will mostly follow the current policies of Ministry of Economy, Trade and Industry (METI). However, the participation of TPP will highlight the main growth strategy in Abe cabinet to emphasize the importance of rebuilding production and trade network with the major advanced economies such as the United States, Canada and Australia.

The reaction inside of Japan

          In order to meet the 2% inflation target, there are several steps to be completed. Firstly, the financial status of both Japanese companies and households must be improved. Secondly, higher consumption and investment sentiment must be triggered without further uncertainly on either domestic policy or international economic turmoil.

          About the current situation in the first step, many Japanese companies have already been financially benefited by the current yen depreciation. Since the cross elasticity of demand of Japanese goods to other neighbor countries in the domestic and main overseas markets is relatively small, the yen deprecation may not only further secure but also retake the once losing overseas market share. Specifically, high-tech and capital intensive industries are more likely to be significantly benefited.

          In addition, many believe that Japanese companies will be financially viable or at least improved if yen depreciated by more than 10%. As the level of depreciation has been more than 10% during the current development, many multinational corporations have been showing promising recovery in stock prices, sales and profitability, even some of them are still under loss.

          With the optimistic recovery in terms of profitability, as a result, Japanese companies and households are also starting to show better sentiment in investment and consumption. For instance, some multinational banks such as Citi Group are planning to enlarge it operation and employment in Japan for the prediction that Japanese companies may restart to need more financial services. In addition, many multinational companies such as Sharp and Panasonic have also decided to give their employees the scheduled salary increase despite the fact that these companies are still facing operating loss. With the Nikkei Stock Average exceeding the level before the collapse of Lehman Brothers, these ongoing scenarios within Japanese companies are likely to further trigger higher consumption sentiment in Japanese households. According to a survey by the Cabinet Office announced on March 12, the consumer confidence index has reached 44.3, representing the highest level for the first time in 5 years and 8 months.

The reaction outside of Japan: Will Abenomics be stopped or neutralized?

          Firstly, by taking a deep look at the Japanese CPI, one can certainly realize the difficulty of meeting the 2% inflation targeting. Among the CPI components, energy related products are the only goods most likely to experience price increases due to Yen depreciation. The price trend of other goods may still be flat or on the deflation due to serious market competition or further technology improvement and shorter product life cycle.

          Moreover, in the micro level, best strategy for Japanese companies is to moderately raise their equipment utilization rate without taking the first strike to lower prices and enlarge production scale to grasp larger market share. After all, Yen depreciation may save the Japanese companies from the profitability issues but may not help them in improving their fundamental competitiveness. Hence, the best strategy is to hold the prices and production scale at the current levels and put more focus on restructuring their business operation.

          Having realized this underlining fact, one can easily obtain a premature observation that the 2% inflation targeting will be hard to achieve unless the Japanese government levies higher consumption tax. In other words, this target setting is to grant the Abe cabinet more elasticity to conduct monetary easing.

          How do other countries perceive Abenomics? Of course, depreciated Yen is not completely welcomed by the trade competing economies such as Korea, China and even Taiwan for the reasons of possible loss on their competitive edge in the main overseas markets. However, it would also be premature to say that other trade competing economies will adopt complement strategies to neutralize the possible effects.

          The reason is that Japanese companies have not actively attempted to lower the prices and overtake the market shares from these economies. Moreover, the trade relations between Japan and other economies within APEC region are mostly the supply chain networking within the group of Japanese companies. Hence, other economies have not faced the increasing pressure from market competition that leads them to the complement monetary easing policies.

          From viewpoints of the United States, one can suspect that the tolerance of the United States on the depreciated Yen is based on the concerns of international relation issues. However, if Yen continues to depreciate, it may trigger more carry trade investments from Japan to overseas markets and become another financial and technological force to help developing American emerging industries.

          In addition, through more American companies returning to the mother country, these American manufacturers may need to concern the increasing supply chain logistic costs and therefore the depreciated Yen could play a role on keeping the costs sustainable.

The future of Abenomics: is it the cure for Japanese economy in the long term?

          Although Abe cabinet seems to gain significant success on the monetary policies, many people still believe that Japanese economy need more longterm structure changes to further guarantee the sustainable economic growth.

          Among many vital factors, the demographic aging problem seems to be on the center. There is a concern that the Japanese married couples are becoming incentive to increasing income when making decisions on child birth. Therefore, Abe cabinet may need to devote more efforts on other structure changes and incentive programs other than economic related policies. In the long term, Japanese society will also need to be more willing to adopt the role as an internationalized country and society, such as Singapore, to prevent the working population from continuous shrinking.

          Another important issues related to the international competitiveness of Japanese economy is human capital formation. The quality of young generation workers in Japan seems to be less competitive than the older one partly due to the time-contract work system. In a knowledge economy where labor productivity highly depends on experiences and learning by doing, too many young generation workers taking the time-contract jobs will lead to serious issues on international competitiveness of Japanese economy. Abe cabinet will need to work on more policies related to labor market and industrial structure reforms so as to guarantee the long-term prospects of Japanese economy.

(Dr. Tristan Liu is the Deputy Director of Research Division II, TIER)

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