Prime Minister Shinzo Abe embodies the Japanese economic comeback story. After all, he himself has come back for a second round as the head of the world's third-largest economy.
Shinzo Abe was elected for a second time at the end of 2012. He was ready to make his second attempt at the the Prime Minister role a more impactful than his previous tenure. This time he would not have to follow one of the greatest outliers in Japanese politics: Rockstar like Junichiro Koizumi. Abe as leader of the LDP, which was ousted in government for the first time in decades, had the momentum to restore the party to power. Lessons were learnt from his first time as PM. Abe even hired Koizumi's Chief Secretary to boost how he is perceived. He would be bold this time around, and he made bold promises to the Japanese people.
Head of the Bank of Japan
Deflation has gripped Japan for the last two decades. The more the price of goods continues to drop, consumers will await in the sidelines. Lower consumption translates to lower revenues for corporations and less wage increases as even the threat of inflation is not present. The key to Abe's economic revival has been to target inflation straight on. He set a 2 percent target that sent shockwaves through monetary policy circles. The Bank of Japan governor Shirakawa did not appreciate the comments that the central bank was not doing enough, when it was matching the Fed and the ECB almost step by step. Abe knew Shirakawa was not going to be the man he needed at the helm of the BoJ if he wanted to drive inflation higher. Shirakawa's term ended in March, 2013.
When Abe won the elections he had the political strength to reiterate the 2 percent inflation target. This sent a signal to potential central bank governor candidates. This was the top priority for the Abe government. The head of the Asian Development Bank Haruhiko Kuroda took the challenge and issued statements around the fact that the goal was possible in a 2 year time frame. He was confirmed in February 2013.
Abenomics: Three Arrows
The Shinzo Abe led government has devised a three-part approach to fixing the Japanese economy via three “arrows”: monetary stimulus, government spending, and structural reforms.
With Kuroda at the head of the BoJ the first arrow was fired in March. The Bank of Japan announced its plans to double the monetary base by buying more government bonds to reach the 2 percent inflation target. This immediately had a positive side effect. The Japanese Yen dropped and Japanese corporations enjoyed both a strong domestic stock market and healthier exports.
Yen Weakness Has Emerging Markets Calling For Currency War
The Yen has kept to the same direction that Abe has pointed to with his statements: down. In the year that Abe has been in power the yen has fallen more than 20% versus the U.S. dollar. A weaker currency has helped to boost exports and drive the local stock exchange to five-year highs. Finance ministers from around the world cried foul when the Japanese plan was announced. Brazil's FinMin was quoted as saying this was an act of currency war. The Group of 7 disagreed. They backed Japan, and as long the monetary policy measures are domestic, then it's not currency manipulation. During followup G7 and G20 meetings that message has been reiterated.
In order for those trends to continue, however, they must be followed by deeper structural changes. Though the Japanese trade deficit continues to expand as import prices inch upward. There has been a lot of proposals and planning around the other two arrows. The second arrow relates to government spending and how to avoid the paradox that the government needs to spend less as it already is heavily indebted, but at the same time stimulate the economy more. The Abe government has approved a sales tax hike that is responsible, but has hedged it with a stimulus plan to offset any growth slowing impact. Analysts are not as optimistic about this arrow as the monetary policy one as it has been somewhat compromised and there are doubts about it's the size of the stimulus and the timing of the sales tax.
Japan exports rose 16.5 percent in October from a year ago. The currency has devaluated close to 20% this year after the start of Abenomics in March. The Japanese economy has only partially benefited from the lower currency as the stock market and exports have risen. The flip side of that is that Japan is importing energy and food at a higher rate, which in fact have turned the country famous trade surplus into a deficit. Imports in the same period have risen 19 percent.
Gross Domestic Product in the third quarter was stronger than expected at 1.9%. Compared to the previous quarter gain of 3.8% it was a disappointment. Shinzo Abe continues to focus his efforts on inflation. Japan has been caught in a deflationary environment for over two decades. Importing inflation via a falling currency with energy and food prices denominated in foreign currencies have boosted the CPI, but its sustainability depends on the market having confidence that the yen will continue to weaken.
The first part of the Abe plan seems to be working. Boosted by the Bank of Japan the monetary policy has driven down the price of the currency and helped inflation rise. The other two parts of the plan have failed to gain traction. Wages need to go higher in order to keep up with inflation or consumer won't spend. Structural reforms need to be added to unlock the labour and direct investment market.
Japan's Self Defence Force
The geopolitical risk in the islands dispute between Japan and China hit a new high this year. China presented its new Air Defence Zone that includes the islands and reported the US had violated the unilaterally defined Air Zone. Japan's army has been a difficult subject from the Japanese since the end of the second world war, when a new constitution was signed that prevented Japan from forming an army. There is of course a work around, and that is what the Self Defence Force stands for. A change in the constitution is in the cards because the escalation in military activity and the fact that the US is put in a difficult decision of picking between two powerful allies.
The post Abenomics Year in Review Abe and Yen Get a Second Chance appeared first on MarketPulse.
The following article is from one of our external contributors. It does not represent the opinion of Benzinga and has not been edited.
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