June Trade Surplus

Well, Japan's trade surplus powered ahead again in June, up 53.4% from June 2006, according to Bloomberg.

Japan's trade surplus surged in June as a weaker yen and higher overseas demand for electronics and cars helped exports rise at the fastest pace in five months.The surplus expanded 53.4 percent to 1.23 trillion yen ($10.2 billion) from a year earlier, the Ministry of Finance said in Tokyo.

Other points of note were that while exports climbed 16.2%, imports gained only 10.7% which was significantly below market expectations. The weaker import reading reflects both the weakness in the yen (and hence the relative cost of imported products) and ongoing weakness in domestic demand.

It is also worth bearing in mind that export volumes, which don't take into account price and currency fluctuations, rose only 6.1% y-o-y in June, and thus that a significant part of the increase in the surplus comes not from increased output, but from the increased yen value of sales prices in other currencies.

Exports to the U.S. rose 6.7% y-o-y in June after barely rising in May and falling in April for the first time in two years. This slower rate of increase to the US is in part a result of the fact that domestic demand has been weaker there of late, and of the fact that the USD has also been falling relative to other currencies, so the "cheap yen" factor isn't so important there. Exports to the European Union, OTOH, climbed 16.3% to reach a total of 1.08 trillion yen, the second highest value on record, and here of course the relative currencies values really do matter, as both the euro and the pound sterling have risen sharply in recent months.

It is almost possible to say that in some measure Japan now has an automatic hedge here, since, as long as the BoJ rates don't rise too much, and as long as Japanese retail investors keep sending funds out in the search for yield, then the yen should stay at a comparatively low level, and if the value vis-a-vis the euro rises this can only be because the US economy starts to pick up again, the dollar starts to rise again, and hence the Yen-dollar crossover moves in the direction of a weaker yen. In other words, at the present time Europe is picking up the slack for weaknesses in the US economy.

Shipments to China also continue to be important, and these surged 22.6% to a record 1.13 trillion yen while exports to the rest of Asia gained 15.8%.

The Eternal Yen Waiting Game?

This is UBS' Jonathan Anderson writing on the Yen (hat tip; RGE's Economonitor) ... This is a well written piece which point to a number of important structural characteristics of the Japanese economy ... the question then becomes, why are we seeing these structural characteristics?

Here is Jonathan ...

(...)

Every one of Japan’s neighbors is strengthening against the dollar ... what will it take to get the yen going again?

At this point, our answer is: it would take a near miracle. And we don’t see one occurring any time soon. Perhaps things will be different in 2008, but for 2007 the most likely outcome is continued doldrums for the yen.

Consider the following four prerequisites for a strengthening yen:

1. A vibrant economy. Everywhere in Asia, currencies have strengthened in direct proportion to confidence in the domestic recovery process: rising incomes, a buoyant credit cycle, increasing domestic investment, etc. And sure enough, the last time the yen rallied was late 2003, when real GDP growth exceeded 4% y/y and investors around the world were getting excited about Japan’s “rise from the ashes”. Since then, however, the economy has continually disappointed, straining towards 3% real growth but then falling back before picking up and falling back once again. Of course the economy is accelerating in the middle of 2007 – but the 2.6% real growth pace of the first quarter of the year is still well below what we need to see to initiate a sustainable yen rally.

2. Inflation. We thought we were finally seeing the end of deflation a few times over the past five yers, when headline CPI growth broke through zero in 2004 and again in 2006, but every measure of goods and services prices is back in negative territory today. In fact, “core” inflation (excluding food and energy) has never once been positive since 1998, and the overall GDP deflator is still falling at a visible clip. Things have been almost as bad on the asset price side; the 2005 Nikkei recovery quickly petered out, and since then Japanese stocks have been the worst performers in Asia. Nationwide land prices are still falling, and new commercial and residential construction starts have slowed visibly over the last four quarters. These are not exactly the most compelling trends to support the value of the national currency.

3. Rising interest rates. The current 450 basis-point gap between short-term Japanese rates and short-term US rates is a powerful incentive for global investors to play the “carry trade”, borrowing in yen and investing in US or other high interest economies – which, of course, pushes the yen even weaker. With moderate growth and no sign of positive inflation, it’s nearly impossible for the BoJ to undertake anything more than very token rate hikes – and while we’ve been waiting for the US consumer to show signs of weakness so the US Fed would be encouraged to cut rates, so far there’s no real indication of a consumer slowdown (and inflation remains on the high side in the US economy as well). Even the recent sub-prime debt turmoil has not yet made a big dent in US economic strength.

4. Domestic support. Finally, we need Japanese residents to invest their portfolio assets at home. For the past few years, however, the trend is just the opposite: Japanese firms and households have discovered other high-yielding markets, for example New Zealand debt and Indian equities, and have started to move assets offshore in ever-larger amounts. The resulting portfolio outflows are a constant source of weakening pressure on the yen as well – and they also discourage foreign exchange traders from taking long yen positions, since they don’t want to be caught betting against 127 million Japanese citizens going the other way.

And the key is that none of this is going to change any time soon. We do expect continued recovery in the overall economy, but weakness in crucial areas like domestic construction suggests that the recovery will be moderate. As we noted above, inflation remains a disappointment, and the Nikkei index is still a big underperformer. The Bank of Japan may well undertake another small rate hike in the second half of this year, but so far the Fed shows no sign of throwing in the towel, which means it will be a long time indeed before interest rate gaps close in a meaningful way. And those domestic portfolio outflows are still accelerating. The bottom line is that it’s going to take a lot of work from here to push the yen into a sustained, significant strengthening .... so please don’t hold your breath.

A Bit of Both from the Domestic Economy

This small snippet is really a recognition of the fine job by Ken Worsley who maintains the Japan Economy and News blog. Between him and JEW you should be able to find top notch economic commentary and coverage on Japan. So what is in store this time? Well, as I have argued before regarding the much hailed August meeting at the BOJ much will depend on the outlook of domestic demand. In fact, I have argued that the BOJ might feel vindicated to sneak a raise past the post on the back of a potentially strong reading in June's consumption and inflation figures. On that note, what might we expect on this accout then?

Firstly, as Ken Worsley reported recently department store sales rose rather briskly in June which underpins the probability of an above average reading in June's overall figure for domestic consumption out at the end of this month.

After having seen sales drop 0.4% in May, the nation’s department stores saw a rise in sales for the first time since February of this year as June sales increased by a whopping 5.5% to 634.9 billion yen versus June of 2006.

The survey covered sales at 278 department stores operated by 94 companies nationwide. The surveyed shops reported employing 95,220 people, up 6.4% from a year ago. The total amount of shop space (measured in square meters) was unchanged.

However, as we see today (once again via Ken Worsley) sales in supermarkets were down 1.5% in June which marked the 40th consecutive drop.

On the heels of last week’s strong supermarket sales data [edit: I am pretty sure he means department store sales here], we still have not such good news coming from the supermarket sector. In June, supermarket sales across Japan were down 1.5% year on year, showing a fall for the 18th consecutive month, and now for 39 of the last 40 months.

This month’s data covered 8,645 shops owned by 79 companies employing 446,515 workers - 129,599 full time and 316,916 part time. Interestingly, while 31.5% of the full-timers were women, that group made up 90.87% of the part-time work force.

As we can see the evidence of a sustained pick up in domestic demand is far from decisive in Japan and neither as it were is the evidence from June where we just have to wait a little more to see I guess. In this respect, note that Ken points to Friday this week for data on retail sales and to Thursday next week for the aggregate household spending data for June. Another very interesting point here is Ken's remarks on part time jobs. I can tell you that he is not the only one who has been scratching his head lately on this. Remember that Japan, despite ever tighter labor market conditions, is still seeing decline in real wages and the relative weight of part time jobs could have something to do with this.

Price Measurement in Japan

Cross-post from Alpha.Sources


If you have been following my notes on Japan's economy you might have noticed that the measures of inflation represent something of a maze. Basically, I usually cite three measures of inflation in ny notes on Japan as can be seen from the graph below from one of my recenc posts ...

Regarding the official data which comes out of the Japanese statistical office and which is subsequently cited by Bloomberg, Reuters etc we are looking at the green line which measures the general index less fresh food. This also means that the official Japanese inflation measure includes headline inflation represented by energy prices. Now, the measure of inflation in Japan is of course far from trivial since in an economy cruising very close to deflation the central bank and thus markets are using even small fluctuations in prices as a base for migthy important and far reaching decisions. But what prices should we be looking at and is Japan currently in deflation or inflation? Regarding the former this is set, I think, to hit headlines very soon as it seems as if structural inflation pressures are set to mount. Remember here that while the recent surveys indeed show that inflation expectations are rising in Japan much of this is due to a perky headline. As such, there is a risk that inflation measures in Japan might very well diverge in the coming months something which could indeed help the BOJ but if domestic demand does not follow back up then of course the BOJ will be stuck between a rock and a hard place.

Turning to the latter and whether Japan is in fact in deflation or inflation and how gauge this we move to the real impetus for this entry. In this way Christian Broda and David E. Weinstein recently had a paper published at the NBER on price stability in Japan which highlights some of the important issues with the measurement of Japan's inflation rates. Now, if we disregard the implicit narrative (true as it may be) that US methodology is superior I think that there are some important points most notably of course the general point about how Japan's inflation index is biased upwards. Here is the abstract ...

Japanese monetary and fiscal policy uses the consumer price index as a metric for price stability. Despite a major effort to improve the index, the Japanese methodology of calculating the CPI seems to have a large number of deficiencies. Little attention is paid in Japan to substitution biases and quality upgrading. This implies that important methodological differences have emerged between the U.S. and Japan since the U.S. started to correct for these biases in 1999. We estimate that using the new corrected U.S. methodology, Japan's deflation averaged 1.2 percent per year since 1999. This is more than twice the deflation suggested by Japanese national statistics. Ignoring these methodological differences misleading suggests that American real per capita consumption growth has been growing at a rate that is almost 2 percentage points higher than that of Japan between 1999 and 2006. When a common methodology is used Japan's growth has been much closer to that of the U.S. over this period. Moreover, we estimate that the bias of the Japanese CPI relative to a true cost-of-living index is around 2 percent per year. This overstatement in the Japanese CPI in combination with Japan's low inflation rate is likely to cost the government over 69 trillion yen -- or 14 percent of GDP -- over the next 10 years in increased social security expenses and debt service. For monetary policy, the overstatement of inflation suggests that if the BOJ adopts a formal inflation target without changing the current CPI methodology a lower band of less than 2 percent would not achieve its goal of price stability.