Japan’s strong GDP growth of 0.9% in the first quarter, or 3.5% annualised, shows that Shinzo Abe’s “shock and awe tactics” are working, says Nancy Curtin of Close Brothers Asset Management.
Japan’s prime minister gained office last autumn determined to shake the economy out of its 20-year deep sleep. His three-pronged strategy includes unprecedented money printing, extra government spending worth $100bn, and the promise of pervasive structural reform.
QE (quantitative easing) has weakened the yen, boosting prospects for major exporters and giving equities a lift. They have gained 55% since Abe’s election.
The good growth figure was based mainly on household spending, and while this was recovering in any case after the tsunami, the impressive figure does suggest that Abe is “electrifying a nation”, as The Economist puts it.
Confidence is rising for the first time in years, as the government seems absolutely determined to end the long malaise. The rising stock market will also have boosted optimism – and some shoppers’ cash balances. The feel-good factor hasn’t spread everywhere yet, though. Capital investment fell for the fifth straight quarter.
Supply-side reform also needed
History shows that monetary easing “can lift asset prices and confidence for a time”, says The Wall Street Journal, “but it cannot sustain an expansion”. The monetary boost could “be as temporary as the gains from 20 years of… deficit spending have proved to be”.
To make sure this doesn’t happen, Abe must push through “by far the most important” part of his programme, the shake-up of the supply side. Just one statistic highlights how much work there is to do. There is so much regulation that Japan ranks only 24th overall in the World Bank’s Doing Business study, and just 114th in the ease of starting a new business.
The structural reform push is also crucial because Japan needs a sustained increase in its productivity, and hence growth potential, if it is to get on top of its huge debt load, says The Economist. Medical services, pharmaceuticals, retail and agriculture are prominent industries that could do with being liberalised.
Take agriculture. A dense network of tariffs, subsidies and regulations has ensured that small farms can’t consolidate, keeping the sector inefficient and uncompetitive, notes The Wall Street Journal. The average Japanese farmer is 66 and tills 1.9 hectares of land.
In the retail sector, small, inefficient shops are shielded from competition by zoning laws, subsidies and local authorities’ veto power.
What next for stocks?
The government is due to unveil detailed reform proposals next month. Abe has signalled his determination to make changes by committing Japan to join the Trans-Pacific Partnership, a US-led free-trade push that would imply liberalisation in some of Japan’s most protected industries. Resisting the vested interests benefiting from the status quo may not be easy, however.
“The most important thing will be deregulation. If a lot of deregulation is announced it will be positive for the stock market,” says Hiromichi Tamura of Nomura, a bank. The structural reform story has the potential to give stocks an additional fillip.
In any case, thanks to ‘Abenomics’, local and foreign investors are rediscovering Japan after years of ignoring it. Global funds data provider EPFR says that Japanese equity funds saw inflows of $6.8bn in the week to 15 May, the highest since records began in 2003.
But with so many fund managers still underweight Japan, there is plenty of room for more to join the party. “It’s amazing,” says Nikko Asset Management’s John Vail, “how the psychology about this country has changed.”