Early in, early out
Jan 22nd 2009 | TOKYO
From The Economist print edition
An economy not hit directly by the financial storm is shrinking much faster than any other developed one
NO EVENT is seared upon Japan’s recent memory like the bursting of the country’s credit-inflated bubble in land and share prices after 1990. Yet, since the autumn, the speed with which Japan’s industrial output and exports have fallen almost certainly signals a slump of unprecedented severity, making Japan’s several post-bubble recessions look mild. In 1998, the worst year, the economy shrank by 2%. Most economists think it contracted by more than that in the last three months of 2008 alone. Goldman Sachs expects GDP to fall by 3.8% this year.
After six years of growth, the longest uninterrupted post-war run, Japan entered a new recession as early as the second quarter of 2008. But in the final couple of months of the year, what at first was a fairly gentle decline morphed into something far worse than that experienced even by countries at the centre of the credit storm (see chart).
In November the value of exports fell by 27% year on year. The picture only worsened in December with a year-on-year fall of 35%. Recession in the United States was the main cause, with exports there down by 36.9% from a year earlier. In turn, the global slump has also knocked supply chains in Asia, sending Japan’s exports to China down by 35.5% in December, with exports to Asia’s “tigers” (Hong Kong, Singapore, South Korea and Taiwan) falling by even more than those to America.
Exports account for almost half of Japan’s manufacturing output, which as a consequence is seeing its biggest falls since records began: November’s output was down by 13% on a year earlier. Orders for machine tools in December, an early indicator of things to come, were 72% lower than a year before. Hiroshi Shiraishi of BNP Paribas reckons that by December industrial output had already fallen back to its post-bubble low in 2001, wiping out the gains from six years of what had been thought to be a solid recovery. Before the slump is over, Mr Shiraishi expects production to slide back to levels last seen in 1987.
It has not helped that the export demand that drove Japan’s economic recovery after 2002 was narrowly based on cars and consumer technology, industries that have fallen more than most. Carmakers, for instance, are roughly halving production, with consequences for makers of steel, chips and chemicals.
Perhaps the most unexpected element of the slump is the knock that domestic sentiment is taking. After all, Japan had none of the credit excesses of America and much of Europe: rather than borrow in recent years, Japan’s companies have paid off debts, while households sit on a pile of savings. The financial system is largely untainted by toxic securities and bad debts, and though the regional banks look set to start asking for public funds, the big city banks are some way from needing to do that. Still, consumer demand, never strong during the six-year recovery, has weakened fast. Year-on-year car sales are down by more than a fifth; department-store sales have fallen by nearly a tenth. On January 20th the Cabinet Office released its consumer-confidence survey for December, which marked its third consecutive all-time low. The survey points to how badly the slump has spread to services.
To cap it all, Japan now faces the return of a ghost it thought it had banished: deflation. By the summer, prices will be falling again. To the extent that this marks a decline in energy prices since last year, it is helpful. But another persistent fall in prices would be a sign of policy failure. In December the Bank of Japan was forced to cut interest rates almost to zero, ie, back to where they last were in 2006. On January 22nd it announced expanded plans to buy commercial paper and even corporate bonds. Takatoshi Ito of Tokyo University, until recently a government adviser, thinks the bank should be doing much more, including making a clear commitment to targeting a positive rate of inflation.
There is cause to temper the pessimism. Households still have their savings. And bank lending to companies is on the rise, though a good chunk of this is taking over from credit once supplied by capital markets, which have dried up.
Crucially, adjustments are happening swiftly in areas that beleaguered companies tackled only slowly during the last slump, such as bloated workforces and excessive capacity. Bankruptcies of “zombie” companies long kept alive on cheap credit and an undervalued currency have soared now that credit is harder to get and the yen has risen to a fairer valuation on a trade-weighted basis. And at the end of a decade in which much more use was made of contract and temporary workers, companies are now laying these off fast. In order to reduce inventories, production is also being slashed. This marks a new flexibility in Japan’s economy.
Unemployment, now 3.9%, may head back towards the post-bubble high of 5.5%. At the same time, the structure of the labour force may lessen the pain. As the economy recovered, many companies asked workers from Japan’s huge generation of baby-boomers to stay on past retirement age. Plenty of these will now simply retire with their pensions. Swift adjustments to workforces and inventories mean that Japan may recover sooner than other rich economies.
But when, and how robust, that recovery will be is another matter. However fast companies are cutting capacity that once served Americans’ debt-fuelled consumption, Japan’s whole economic structure is geared towards meeting external demand. That post-war model in Japan is now bust. So too is the political system that built and guided it: after half a century of almost unbroken power, the Liberal Democratic Party, having lost its purpose, is threatened with annihilation at the polls in the next few months.
Ageing population, decrepit politics
Political dysfunction has now become perhaps the biggest issue for the economy. Policymakers should be debating how to foster domestic demand in an ageing and shrinking society—for instance, by dismantling regulations in health care and services for the old that benefit producers over users. Instead, the government is locked in a sterile fight, within its own ranks as well as with the opposition, over a relatively small stimulus worth ¥2 trillion ($22 billion), much of which will be pocketed by consumers, not spent. Masaaki Kanno of JPMorgan Securities thinks that a stimulus four times bigger, designed to raise productivity, is needed to counter the slump in demand.
The government’s timidity is encouraged in part by a national debt that soared during the post-bubble years: the ratio of net debt to GDP stands at over 90%. Yet interest rates and so the cost of servicing the debt remain very low; and almost all the debt-holders are Japanese, not flighty foreigners. The risks lie in favour of more vigorous action.
The same applies to the central bank, whose natural caution is reinforced by the absence of political direction or debate. For instance, a case might be made for the Bank of Japan, as well as clearly targeting inflation, to buy equities, so boosting commercial banks’ capital, a big part of which is made up of shareholdings whose value continued to lurch down this week. So here is the irony: whereas the rest of the rich world, starting with America, desperately seeks to avoid Japan’s experience in the post-bubble years, Japan today is condemned by its own dismal politics to drag along behind everyone else.