Research Blog
Japan: Trading on past glories?
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Chris Scicluna, Economic Research
Daiwa Capital Markets Europe Limited
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25 January 2012
Japan’s initially vigorous post-quake economic rebound has long petered out. Activity levelled off over the summer and into the autumn, taking a step down in November. A key weakness in the final quarter was external trade, with export volumes down almost 4%Q/Q. And with import volumes up more than 1%, the trade balance, which shifted into deficit immediately following the quake, deteriorated further. So, it was a mere formality when data released earlier today confirmed that in 2011 Japan registered a full-year trade deficit for the first time since 1980.
Japan’s trade balance has been eroded steadily from both sides of the equation. For a start, Japanese exporters have failed to recoup the market share lost in the immediate aftermath of the collapse of Lehman Brothers, unable to capitalise fully on their proximity to dynamic Asia, which continues to register the world’s highest import growth rates. Moreover, having briefly regained their market share globally by 2010, they began to lose ground once more even before last year’s earthquake (see chart). The most recent weakness in exports is partly attributed to disruption associated with the Thai floods, something that is gradually being overcome. But, more fundamentally, Japanese exporters appear to have suffered heavily at the hands of the strong yen, which has appreciated more than 35% in trade-weighted terms since the collapse of Lehman Brothers to a post-war high. And, of course, the scarring effects from March’s earthquake persist.
Japanese and global goods trade growth*
* Japanese export markets data show the growth in imports weighted according to their rolling share in Japanese exports. Source: BoJ, CPB and Daiwa Capital Markets Europe Ltd.
It is on the import side of the trade balance, however, where the longer-lasting impact of the quake will be felt, particularly as a consequence of the Fukushima nuclear disaster. Increased fuel imports, particularly of liquefied natural gas to compensate for reduced nuclear-powered electricity generation, fully account for Japan’s rise in imports over the course of 2011. Indeed, in their absence Japan would have run a trade surplus. None of the nuclear plants taken offline for routine maintenance and new stress tests since the disaster has been restarted. And with TEPCO today shutting down one more reactor, only four out of Japan’s fifty-four reactors remain online, with all of those set to be taken offline by the end of April. So, a further decline in nuclear power generation – which accounted for about one third of electricity generation before the quake – looks on the cards. That poses a further downside risk to activity, and a rare upside risk to inflation, with businesses facing higher electricity prices. And, from an external perspective, it will mean continued elevated imports of fuel.
So, in 2012, with energy-related imports set to remain high, the yen elevated and global trade growth failing to accelerate, we might well see another full-year trade deficit. And we forecast net trade to make no contribution to GDP growth. That will leave growth entirely reliant on post-quake reconstruction – which we do at least expect gradually to build – and any boost to consumption from the reinstatement of fiscal incentives to purchase ‘energy-efficient’ cars. This also appears to be the view of the Bank of Japan, whose latest GDP forecast of -0.4% in FY11 and 2.0% in FY12, aligns broadly with our own.
Japan’s weaker trade performance will, of course, also continue to weigh on the current account surplus, which has played a key role in underpinning the recent stability of the JGB market and strength of the yen. Nevertheless, with monthly net investment income well in excess of ¥1trn, still more than three times larger than the average post-quake trade deficit, the current account will remain in surplus, probably close to the 2011 level of about 2% of GDP. Indeed, thanks to Japan’s unrivalled net international asset position of more than 50% of GDP, in the absence of new shocks it should continue to run current account surpluses of broadly similar magnitude over the next few years. But this cannot last forever. Japan’s net asset stock has now declined for two consecutive years. And as demographic pressures take their toll, causing the household sector to begin running down their savings and pension funds to liquidate assets held abroad, net investment income might be expected to fall steadily. So, particularly if – as its latest projections suggest – the government is unable to deliver on its commitments to cap the rise in public debt, by the end of the decade Japan might well have shifted to a position of structural current account deficit. This would mark a fundamental change for the Japanese economy, and one which would likely have significant consequences for the markets, not least for JGBs.
Current account balance and components*
* Seasonally adjusted basis. Source: MoF and Daiwa Capital Markets Europe Ltd.
Chris Scicluna, Head of Economics
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