Spring 2013

INSIDE VIEW: Arrival of Japan’s economic spring

Falleing petalsFollowing last year’s election in Japan, new leaders are starting to implement drastic measures. Masashi Oda of SuMi Trust explains the ‘three arrows’ policy: aggressive monetary easing, fiscal stimulus and supporting measures to boost economic growth. With the Liberal Democratic Party (LDP) returning to power in the lower house in December last year and Shinzo Abe, the party’s president, being appointed prime minister, Japan may be experiencing an economic spring. Abe’s election manifesto pledges policies to promote economic growth, sets a 3% target for nominal GDP, and focuses on overcoming deflation as well as reversing the yen’s strong rise against major currencies. The main focus of the pledge is the so-called “three arrows” policy, which means aggressive monetary easing, fiscal stimulus, and supporting measures to boost economic growth. A number of his proposed policies have already been implemented and approved. The Bank of Japan adopted a 2% inflation target; it also took a further step to enhance its monetary stimulus policy by expanding the asset purchase programme and making it open-ended. Abe nominated Haruhiko Kuroda, the president of the Asian Development Bank, to be the next governor of the Bank of Japan. Kuroda is seen as a strong supporter of the prime minister’s policies, having advocated that the bank should adopt an inflation target and pursue aggressive monetary easing to reverse many years of deflation. The cabinet approved the emergency stimulus package of about 10 trillion yen ($105 billion). It was estimated by the government that this increased Japan’s GDP by 2% and is one of the largest on record. Meanwhile, the cabinet also approved the fiscal year 2013 tax-reform plan, which reduces the tax by 250 billion yen. The plan covers tax incentives to encourage investment and employment by companies as well as measures aimed at the best utilisation of assets held by individuals. These include, for example, the introduction of an individual savings account programme and creation of a gift-tax exception. Overall, this approach is designed to redistribute wealth to younger generations and stimulate consumer demand. Abe and US president Barack Obama met in February, which could set the stage for Japan to join negotiations on the Trans-Pacific Partnership (TPP), an agreement to liberalise trade. Abe considers joining the pact only if no prior commitments to eliminate all tariffs are required. Following an official joint statement, an announcement that Japan will enter negotiations is expected shortly. The policies implemented by the new administration have, so far, been well received. However, a number of investors have asked whether it could implement pro-growth policies, such as de-regulation.   Although the decision to join the TPP has provided at least some form of an answer, the key point is to what extent inflation will be achieved by the Bank of Japan’s aggressive monetary easing under the new governor. Monetary easing has already caused the yen to depreciate. On the back of the US economy’s recovery, corporate earnings growth (net profit) are expected be around 45% in the fiscal year 2013, under the assumption of a 90 yen/dollar exchange rate. This forecast is upgraded by around 5% when the assumption changes to 95 yen/dollar. South Korea, on whose economy the weaker yen has significant negative impact, complains about this depreciation. But neither the G7 countries nor the G20 have officially criticised Japan over the recent weakness of its currency. The Economy Watchers Survey, which is published by the cabinet office, suggests consumer confidence was higher in February, compared with levels seen in 2007. Measures to pursue further monetary easing, which Kuroda mentioned, will contribute to maintain, if not strengthen, the favourable domestic conditions by keeping the weaker yen and, therefore, improving economic sentiment. Such measures include purchasing longer duration government bonds and larger amounts of risk assets, such as exchange-traded funds. Even after an increase of more than 40% in prices in Japanese equities, the price/earnings ratio is still around 15 times. Key structural reforms and consistent governments have previously had positive effects. During the Junichiro Koizumi administration [prime minister from 2001 to 2006], there were two lower house elections, which resulted in strong equity market rallies. ALLIANCE
With an emphasis on monetary easing and deregulation, Abe’s policies are similar to those of Koizumi and, by consistently implementing his policies, his government is expected to be able to support equity markets in the same positive fashion. Recent surveys show Abe has 70% popular support, indicating that it is likely the LDP will win a majority in the upper house and ensure legislative progress. Opposition parties control the upper house of the diet [the bicameral parliament]. Despite its supermajority in the lower house, the Abe administration’s freedom to implement its policies is likely to be constrained, to some extent, by the upper house. However, if the LDP and the New Komeito party, which have formed an alliance, wins more than half of the 121 seats in the re-election in July, the coalition will form the majority of the upper house. In this case, LDP/Komeito is likely to stay in power and enjoy political stability until 2016, when the next upper house election will be conducted.  Accordingly, the government will be free to implement policies to meet its inflation and economic growth targets. Masashi Oda is chief investment officer of the equity investment department at SuMi Trust ©2013 funds global asia

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