Aso's choice

Japan’s new prime minister is facing up fast to an economy teetering on the brink of recession – and what this might mean for his party’s immediate political future

  • By Anthony Rowley
  • 10 Oct 2008
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By Anthony Rowley
Japan’s new prime minister is facing up fast to an economy teetering on the brink of recession – and what this might mean for his party’s immediate political future

Recession is staring Japan in the face. The problem facing Taro Aso, who took over from Yasuo Fukuda as prime minister on September 24, is how to tackle it. 
With private consumption and corporate capital investment slowing in sympathy with falling exports – as other world economies slow down in the wake of the US downturn – Aso’s options are limited.
The only course open to Aso’s government appears to be fiscal stimulus, thereby blowing out further Japan’s huge public debt. This would not be good news either economically or politically.
There is also an electoral dimension to his problem. By law his Liberal Democratic Party must call an election for its House of Representatives by September 2009. Would this be a good moment to call a snap election and capitalize on his popularity after taking over from the disliked Fukuda?
Most pollsters had assumed that Aso would take the risk that his party – which has been in almost uninterrupted power for the past half century – could be beaten by the Democratic Party of Japan (DPJ). If he lost, the DPJ would have control of both the lower and upper houses.Recent reports suggest, however, Japanese leaders may push back snap elections to focus instead on economic measures to help cope with a fresh wave of global financial turmoil.
Although DPJ head Ichiro Ozawa has not detailed his economic policies, Eisuke Sakakibara, a former vice finance minister for international affairs – once known as Mr Yen – who is tipped to become finance minister if the DPJ gets in, reckons tough times are ahead. “The possibility of Japan going into recession is not low,” he says. Moreover, he reckons it could happen within months.
Japan’s growth prospects are “very weak”, Sakakibara tells Emerging Markets. “Even if we do not go into recession, Japan’s growth rate will be at best 1–1.5% over the next year. There are “very few policy actions that any government can take”, he says. “It’s a very difficult situation.”
New stability
Others are not so pessimistic: Bank of Japan deputy governor, Kiyohiko Nishimura, argues that underlying economic growth in Japan has achieved a new stability as a result of diversification in export products and markets. But Nishimura, who is also one of Japan’s most influential economists, admits that a combination of financial market turmoil and high commodity prices could deal what he calls a “synchronized shock” to all of Japan’s export industries. “Amid discussion of whether the economy is in recession or not, a more important point is that domestic activity remains calm,” says chief economist Richard Jerram at Macquarie Securities in Tokyo. “Most of the problems are the result of external events. There are few parallels with the 1990s [when Japan suffered its so-called ‘lost decade’ of economic recession and stagnation].”
Even so, Macquarie has halved its forecast for Japanese GDP growth in the fiscal year to March 31, 2009 from 1.4% to 0.7%. The Bank of Japan has cut its forecast for growth in this fiscal year from 1.5% to 1.2%, but this is still ahead of most expectations of 1% expansion at best. Japan’s GDP contracted at an annual rate of 3% in the second quarter of the calendar year, reversing the strong performance in the first three months. It is not expected to grow beyond 0.1–0.2% in the second half of the year.
Home thoughts
Jerram’s view that Japan’s problems are the result of external events is not one that many challenge. But it highlights the need for Japan to promote more domestic demand to reduce reliance upon external demand and on global economic cycles. 
One such advocate of change was former prime minister Junichiro Koizumi, who pushed a number of domestic reforms aimed at doing just that. A backlash against such reforms, including Koizumi’s controversial privatization of Japan’s vast postal savings network, has set in since the maverick politician left office in 2006. Reforms aimed at making Japan’s economy more efficient and self-sufficient are blamed for creating social and economic inequalities, and none of Koizumi’s three LDP successors since then, including Aso, has mentioned the word reform.
Financial spurs
Aso meanwhile has hinted at a major economic stimulus to shore up the economy, over and above the ¥11.7 trillion package announced by his predecessor Yasuo Fukuda, who resigned in September after just one year in office. Shinzo Abe, prime minister before Fukuda, also survived for only a year. Aso is keenly aware that his term of office could be only a few months if the election goes against him.
Aso has promised tax cuts in addition to the possibility of new public works projects aimed at creating domestic economic activity to offset what threatens to be a continuing slowdown in exports. The prime minister has also implied that he is prepared to sacrifice Japan’s long-standing fiscal goal of achieving a primary balance on the government budget by fiscal 2011 to finance economic growth.
Japan’s ratio of outstanding government debt (central plus local) to GDP is already in excess of 150% – by far the highest among OECD countries. Some fear a possible crisis in the Japanese government bond market if further fiscal stimulus is undertaken. The huge government spending packages made during the 1990s, when Japan was reeling from the collapse of its bubble economy, pushed public debt to current levels.
The room for manœuvre on monetary policy in Japan to ward off recession is virtually non-existent. The Bank of Japan’s short-term policy lending rate is still stuck at only 0.5% after six years of zero rates up to 2006. To compound the situation, consumer price inflation in Japan has hit a 10-year high of 2.4%, while wholesale prices have been rising lately at their fastest rate in 27 years.
High energy and food prices are pushing up inflation with no other sign of cost-push or demand-pull inflation in the economy, says the Bank of Japan’s Nishimura. He worries that rising prices could raise inflation expectations among the Japanese public, leading to demands for wage and price increases by business. 
The Bank of Japan could yet find itself faced with a classic case of stagflation. 
  • By Anthony Rowley
  • 10 Oct 2008

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