Japanese Wages

Well adding more fuel to the fire on my post yesterday, wages data release today say that monthly wages in Japan, including overtime and bonuses, fell (0.7) for the fifth consecutive month in April (as compared with a year earlier):

Japan's wages unexpectedly fell for a fifth month, hampering a recovery in consumer spending that's being fueled by job growth.

Monthly wages, including overtime and bonuses, declined 0.7 percent in April from a year earlier, the Labor Ministry said today in Tokyo. The median estimate of eight economists surveyed by Bloomberg News was for a 0.1 percent increase.

Without higher wages, consumer spending may falter, threatening growth in the world's second-largest economy. Japan's jobless rate fell to nine-year low in April, prompting some economists to say wages will rise later this year.

``The jobless rate is expected to fall close to 3.5 percent, which will start fueling wages and give thrust to inflation,'' said Hiroaki Muto, a senior economist at Sumitomo Mitsui Asset Management Co. in Tokyo.

So here is the puzzle: Japan's unemployment is falling as export driven growth continues and the workforce declines, but why are wages falling?

Two explanations are being offered, both of them relatively plausible, but we definitely need more info and data here:

One reason wages have fallen since December is the replacement of retiring baby boomers with younger, and therefore cheaper, employees, economists say.

Another reason is the increased use of part-time workers, whose pay averages less than half that of regular employees, according to Atsushi Seike, professor of labor economics at Tokyo's Keio University and a member of the government's labor policy council.

This trend in falling (real) wages (remember in a deflationary environment nominal wages are falling, but this isn't the point) is of rather long duration:

Average pay fell about 10 percent between 1997 and 2005, when companies replaced regular workers with part-timers. Part- timers made up more than a third of the workforce in the first quarter, rising almost one percentage point from the previous three months, the statistics bureau said this week.

Household spending has been rising slightly in recent months, but it is not really clear why this is. Certainly household spending will be a data point to watch going forward.

Household spending climbed 1.1 percent in April and has risen every month this year, even as wages slipped.

Time For The BoJ To Move?

by Claus Vistesen

It has been a while since I have last reported on Japan and I even manged to slip on the Q1 GDP figures which showed in unconventional fashion how consumer spending acted as a cushion for declining industrial production. As such, here is a short note which should bring you up to date with the latest ...

On the Q1 GDP figures they should of course to be taken with a pinch of salt since the Japanese trade surplus widened all through Q1 on strong demand from Europe and the rest of Asia (China) even as exports expectedly slowed slightly to the US on the back of sluggish performance in the first quarter. So, capex cannot continue to slump forever in Japan if the trade surplus keeps widening and at some point those inventories although very full from Q4 06 will be depleted. Edward Hugh has an excellent round-up of the recent data and commentary coming out of Japan surronding the first quarter data releases.

Now, the recent data from Japan is indeed interesting and whilst Edward is covering the dip in unemployment from 4% to 3.8% noting the interesting point that wages still are stubbornly reluctant to rise (where is that damn NAIRU? :)) I am going to treat the figures for consumption expenditure which show a y-o-y increase of 1.1% in domestic consumption. As such, we need, as ever I guess, to dig a bit deeper than the traditional (although much appreciated) Bloomberg headline of 'an unexpected accelaration ...'

The immediate point I think should be noted is the nature of the main figures provided by Bloomberg and thus the Japanese statistical offices which are not seasonally adjusted. This is of course not a major issue but the difference revealed in these two figures is fairly large and generally there is much more in the Japanese consumption figures than the headline increase of 1.1% (in this concrete case) would lead you to believe. First of all, we can of coure try to even the average monthly increase in y-o-y consumption expenditures (see here) which amounts to an average increase of 0.8%. This is of course not an outright decline but still hardly sizzling either. Moreover, if we break down the headline figure into sub components we see that education accounted for a above average part of the increase. This coupled with household equipment and medical care were largely what drove the increase in consumption expenditures in April, and we need to ask ourselves whether for example the sub-component 'education' will continue to expand at this pace although of course other sub-components might take over (recreation and culture for example?). The last thing of note is that retail sales continued a six month decline according to Bloomberg although they also make a point on noting that retail sales figures should be taken with a pinch of salt since they do not take into account all those internet savy Japanese consumers buying goods over the internet.

Well, a 1.1% increase is indeed by Japanese standards a hefty growth clip and coupled with the recent signs that industrial production is about to pick up the pace after a sluggish first quarter it seems as if the the BOJ has collected all the ammunition it needs for an increase towards 0.75%. Japanese 5-year notes responded accordingly as yields went up to near a six month high. So is it time for the BOJ to sneak one in here? It could certainly seem so and I would like to stress that although I don't see Japan escaping deflation in any decisive way it would perhaps be smart for the BOJ to lock in 'as many' hikes as possible in order to be able to act on the downside should it come sooner than later. However, as Edward noted above wages are still falling and coupled with a deflationary environment tightening monetary policy does not exactly seem to be the standard remedy. Moreover, I am ever skeptical towards the idea of a continuous pick-up in domestic demand. If we stick by the measures used by Bloomberg I don't see domestic consumption breaking the 1% threshold in 2007 on an even out seasonally adjusted basis, especially not if the BOJ's hiking campaign prematurely pushes Japan back into deflation. As always we will see come next BOJ meeting what Fukui has in store for us and even though I think that the BOJ should not raise I do think we might soon be looking at 0.75% in Japan.

Update

A couple of addendums ...

Surprisingly, industrial production slipped again in April which indeed does seem odd given the fact that the trade surplus seems to be widening.

Japan's industrial production unexpectedly fell for a second month in April as the slowest economic growth in the U.S. in four years reduced demand for Toyota Motor Corp. and Honda Motor Co. cars.

Production slipped a seasonally adjusted 0.1 percent after declining 0.3 percent a month earlier, the Ministry of Economy, Trade and Industry said in Tokyo today. The median estimate of 46 economists was for a 0.5 percent increase.

Also, wages slipped again in April which of course does not bode well for the future of domestic demand in Japan.

Japan's wages unexpectedly fell for a fifth month, hampering a recovery in consumer spending that's being fueled by job growth.

Monthly wages, including overtime and bonuses, declined 0.7 percent in April from a year earlier, the Labor Ministry said today in Tokyo. The median estimate of eight economists surveyed by Bloomberg News was for a 0.1 percent increase.

Employment in Japan: Theory and Practice

Well unemployment in Japan has fallen yet one more time (and here in Bloomberg). Now there is nothing really surprising about this, since Japan's economic expansion is continuing (albeit driven by exports rather than by domestic consumption) and the population of working age is declining, so there is evidently a "capacity" problem here (although it would perhaps be interesting to ask in the light of my post about the Irish "phenomenon" yesterday, why exactly it is that this expansionary wave is not producing more inward migration). Some background posting on the Japanese labour supply issue can be found here, and here.

Essentially the position is that Japan's unemployment rate dropped in April to 3.8% from 4% in March. Now, as I say, there is nothing really surprising in this drop, since it is to some extent built into the demographics of the situation. More surprising perhaps is that as unemployment is falling wages have not been rising:

So far higher demand for workers has yet to reverse a decade-long slide in wages or drive up prices. Wages declined for a fourth month in March after rising 0.3 percent in 2006. Consumer prices excluding fresh food fell for a third month in April, declining 0.1 percent after a 0.3 percent drop in March.
Bloomberg

As the FT also notes Economy Minister Hiroko Ota is clearly not too impressed with the situation:

Hiroko Ota, Japan’s economy minister, who has been cautious about declaring an end to deflation, said she remained concerned that wages had not responded to tighter labour market conditions. Household disposable income fell 0.4 per cent year on year in April, the first fall in more than six months, suggesting that wages had not picked up as fast as many had hoped.

and

Bank officials have admitted they are puzzled by the slow rate at which improved corporate performance has influenced other sectors of the economy. However, they say they are confident that they are witnessing merely a lag effect, rather than a breakdown in their central scenario.

Now all of this is interesting, since it will be remembered that standard neo-classical theory would suggest a different impact from a growing shortage in the supply of labour - namely that wages should rise, and that this increase in wages should lead to labour being systematically replaced by capital intensive equipment (and especially in Japan, where capital, as is well known, remains incredibly cheap and widely available). This replacement of labour by capital is also one of the arguments behind the assumption that ageing should lead to a technology driven productivity surge to help offset the impact on the growth rate of fewer workers being employed (Japan has not hit this capacity ceiling yet, but at the present rate, and absent immigration, she soon will). Could we expect the neo-classical idea to kick in as we tank fills, and the water rises steadily towards the ceiling.

Personally I am not sure, which is why I think that this new and very interesting situation (which has large implications for all of us as our societies age) should perhaps be being investigated with rather more intensity than currently seems to be the case.

Japanese foreign direct investment in other countries

An IMF study titled "Japanese Foreign Direct Investment and Regional Trade" details Japan's investment abroad since the early 1980's. The most noticeable fact that the study turns up is that 'outflows have exceeded inflows by more than a factor of 10"...I think that is at least in part attributable to the closed nature of Japan's economy which has only recently begun to open up to foreign investment. Another factor to be considered is that Japan's exports had been generating so much capital that there was little need for foreign investment to fund capital expenditures.

Also noted in the study is the fact that "By the late 1980s, Japan was investing more abroad than any other country in the world, with its FDI peaking at $67.5 billion (around 2.5 percent of GDP) in 1989"...and then the authors state that "This boom in Japanese FDI ended abruptly in the early 1990s when the asset-price bubble burst." So I feel safe in concluding that a substantial portion of the capital exported abroad came directly out of bank loans against real estate holdings. The study seems to support this as it states that "annual outflows declined steadily, both in absolute terms and relative to GDP and fixed investment, as the sharp decline in asset prices in 1990, which led to severe balance sheet difficulties for many businesses and banks, triggered a deep and protracted economic slump." A question I have is whether the returns on the foreign investments were sufficient to cover the cost of the bank capital...I don't have that data ready to hand.

As to where the capital was going, apparently "Japanese companies sharply increased their investment in North America in the 1980s"..."the United States alone received 50 percent of total Japanese FDI"..."whereas developing countries (including those in Asia) saw their share drop from 50 percent to about 25 percent." Further, the study concludes that "During this period, Japanese overseas investment in the tertiary sectors—including finance, insurance, transport, and real estate—grew significantly, while the share of FDI in manufacturing and mining declined." Essentially, Japan at this point was exporting its real estate bubble to the US; as was greatly discussed at the time with absurd prices being paid by Japanese companies for golf courses, certain office buildings, and other "trophy" properties.

In recent years the trend in FDI is described to the effect that "The share of Japanese FDI received by developing countries has returned to the levels seen in the early 1980s—and the share received by Asian countries within this total has increased substantially. At the same time, FDI flows to industrial countries—particularly the United States —have decreased. The decline of Japanese investment in the United States coincided with the decline in Japanese investment in services, particularly real estate, while the corresponding increase in FDI outflows to other countries in Asia has led to increased Japanese foreign investment in manufacturing, particularly chemical products and machinery." It would appear that recent developments reflect a more measured approach to investing in assets that will consistently generate positive returns. I would say that investment in auto plants in the US has certainly proved to be a winner, as this defused protectionist sentiment in the US, and likely resulted in a lower cost of labor relative to Japanese workers, and has not resulted in any reported declines in auto quality measures for the Japanese auto makers.

The study authors conclude that "Japanese firms are diversifying the location of their production and moving to other countries those parts of their operations in which they are losing comparative advantage." They don't detail what sectors Japan might be losing its comparative advantage in, but it seems reasonable to suppose that the sectors in question are those that China has gained massive shares of in recent years. Therefore, investing overseas seems a rational response to the competition of China and other lower cost countries in Asia. In addition, building operations in China which has a massive supply of labor which can be employed could be a good solution to the problem of significant shrinkage of Japan's workforce in the future due to demographic factors.

These trends could provide avenues for ameliorating tension between Japan and China regarding past conflicts. To the degree that the two countries become more economically interdependent, the odds of future military conflict decrease.