Japan’s outlook remains bleak, with a forecast for continued stagnated economic growth. And with Japanese companies reluctant to shed staff, investors will look for decent returns elsewhere.
Japan does not seem to have suffered more than any other country during this global downturn. Nor, which will come as a surprise to many, did it lag the world in the 10 years prior to this downturn, at least as far as its equity market is concerned (though its economy has been weaker than most).
Asian investors who have been light in Japan since 1986–limiting their exposure to competitive global players such as Toyota, Canon, Fanuc, Honda and Omron, rather than inert domestic keiretsu (Japan’s business groups)–have been proved right. Insofar as the rest of Asia, driven by China and India, has ploughed ahead in the past two decades. It is a position worth keeping an eye on and, in light of the recent historic end of the Liberal Democratic Party’s (LDP) six-decade rule, one worth revisiting.
However, it is right to continue to heavily underweight Japan. Simply put, it is difficult to envisage a scenario in which Japan’s corporate sector does better than the rest of Asia’s over the next decade. There may be the odd six months of stellar stockmarket performance; but there is no reason why such rallies should be sustained (and, if one occurred, the rest of Asia would probably outperform anyway).
This bearish outlook rests on two main premises. First, economic growth in Japan will continue to stagnate. Second, other countries have better growth prospects. From a policy perspective, China and India have passed the point of no return: too many of their people have tasted, or at least smelled, the fruits of free markets. The momentum will be hard to stop, even if governments had a mind to.
Also, both countries are much closer to the beginning of their growth trajectory than the end. China’s bulk and rapid progress to date may fool one into thinking it has matured. It has not. According to the World Bank, the value of China’s output is $2,912 (£1,799) per person–just behind that of the Republic of Congo. True, China’s exchange rate is much undervalued, and on a purchasing power parity basis its output per person is valued at $5,962. However, this only puts it just ahead of Angola. But back to Japan.
While the causes of the country’s funk are complex, the symptoms are obvious: real GDP growth has averaged just 1.1% a year since 1991. What has held back Japan is also what has prevented economic catastrophe: the reluctance of Japanese companies to shed staff. While America has seen its unemployment rate hit 10%, from below 5% two years ago, Japan’s still sits at just 5.7%, though admittedly this is almost three times its post-war average.
Despite the economic malaise, companies that are run commercially are still the exceptions. Canon and Toyota faced an outpouring of anger when they laid off workers earlier this year. Closing factories at home is almost impossible–Japanese companies still put employees ahead of shareholders. In a nutshell, this illustrates why Japan is such a miserable place to look for decent returns on capital, compared with Asian ex Japan.
Does the ousting of the LDP signal that boardroom change is afoot? It seems that the Democratic Party of Japan’s (DPJ) election victory reflects a country trying to wean itself off an ingrained sense of resignation, rather than a popular revolution heralding change. As Jeff Kingston, professor of Asian studies at Temple University put it, Japan’s public has voted for “change they don’t believe in and a leader they are not all that crazy about.”
Growth prospects remain bleak owing, in large part, to the country’s poor demographics. Japan’s birth rate has plummeted since the 1950s and has been below replacement levels for decades. The Ministry of Health estimates that by 2050 the population will decline by 25%, at which point 40% of it will be over 65.
The DPJ has outlined generous incentives to boost fertility rates (the country’s aversion to immigration is well-known). But its opaque plans on funding have only served to underline the weak fiscal position. The latest estimates put debt servicing at $204 billion for the fiscal year to March 2010, equivalent to a quarter of government spending. Japanese consumers, meanwhile, are in no position to buy. The corollary of rigid laws that protect full-time workers has been an explosion in part-time work.
China has surpassed America as Japan’s largest trading partner. It is the same for Australia. Growing dependence on its neighbour poses difficult questions for Japan. For its handful of internationally-minded companies, here is a huge new opportunity. But for investors looking to get the best returns on their clients’ capital, Japan is already being left behind.