Shinzo Abe's reforms are failing, and could be game over for the bond markets
Abenomics is failing, avoids the real issues and is a game of bluff that could spark a market panic, commentators agreed at conference in Hong Kong yesterday.
At Asia’s Independent Research Summit, a trio of senior economists and strategists were distinctly downbeat on Japanese prime minister Shinzo Abe’s three-arrows policy of aggressive monetary easing, fiscal stimulus and support measures to boost economic growth, or “Abenomics”.
They were speaking on a panel entitled 'A new world order – what the world will look like when the cheap money stops.'
Designed to bring the country out of a two-decade-long recession, the approach certainly has its sceptics.
In April, the Bank of Japan pledged to increase its purchase of Japanese government bonds by ¥50 trillion a year for two years – equivalent to 10% of GDP and 70% of all JGBs. It has also set a 2% inflation target to turn around years of deflation.
Stock markets have reacted positively so far, with the Nikkei 225 up over 30% year-to-date to October 24, while the weakening of the yen has boosted export earnings.
One impact of the systematic weakening of the yen has boosted the value of overseas earnings. Toyota reported a net profit of ¥562 billion ($5.6 billion) in its first fiscal quarter ending June 30, a 93% increase year-on-year.
But it isn’t sustainable, said Jim Walker, founder of Asianomics Group, leaving the audience in no doubt that strong stock markets and weak currency-led earnings growth will be temporary. “Abenomics is failing,” he told the conference.
Later he told AsianInvestor it was failing on a variety of fronts. Loan growth to the private sector has been decelerating over the past three months as commercial banks are selling JGBs to the Bank of Japan, effectively “neutralising the effects of the monetary base expansion [as they] park the proceeds as excess reserves at the BoJ”.
While large export-driven companies such as Toyota benefit from a weaker currency, smaller Japanese companies are hit with higher material costs as a result of rising import prices. This leads companies to save rather than spend, which hinders growth, Walker observed. “The more the government spends, the more the private sector saves,” he said.
Ultimately Japan’s biggest problem is a debt-to-GDP ratio of 240%. Inflation causes bond prices to drop, and at present banks, insurance firms and pension funds own truckloads of JGBs, Walker notes. He adds that any fear of a further drop and they will dump the bonds, sparking a huge panic.
In theory this could lead to the government instructing Japanese institutions to sell down overseas assets to prop up domestic ones, said Simon Ogus, founder and CEO of DSG Asia. “Since they own over $3 trillion of other country’s bonds alone, this may not be pretty,” he stated.
Walker added: “At the moment this game of bluff is working. But if Abenomics were really to start working as they want, it would be game over for the bond market in Japan and maybe further afield.”
The panellists agreed that Abenomics is not the answer to Japan’s unsustainable fiscal policy. “Abenomics wishes to create growth and inflation in the hope of reducing the debt burden, but the growth and inflation it is capable of generating is far too small to make a difference,” Walker said.
“Domestically this thing isn’t working at all. The whole point here is that people and markets have lost sight of the problem. And none of the aspects of Abenomics can address the scope of this problem.”
Peter Perkins, global strategist and partner at the Macro Research Board (MRB), says Japan has a fiscal problem with “no hope for growth”. Ultimately, it’s essential the US does everything it can to stay afloat until emerging markets bail it out, he argues.
“Realistically, that’s the goal. It’s why [Americans] are the most important people in the world,” Perkins said. “We buy stuff and if we do, everybody is happy and if we don’t, everybody is sad.
“We don’t have another consumer of last resort. I don’t think Japanese society will be transformed, [nor will] the fundamentals of growth be transformed meaningfully.”
On specific trading ideas, Walker points to emerging market debt. “All I can say is grab it,” he said. “[These countries’] fiscal positions are good. They can repay their debt. And you can now buy EM debt with 7-8% yields.”
He is keen on the Philippines, noting that moves by the government to end corruption and improve governance and transparency could increase potential growth rates to 8-10% in the next five years.
Perkins, meanwhile, likes European financials near-term, although acknowledges these stocks “are not something you fall in love with”. He’s encouraged by the US real estate sector. “They’re inexpensive and there are some nice places,” he said.