Japan in a 'Mild Recession?' ... Sounds about Right to Me

During 2007, myself and especially Feldman and Takehiro Sato from Morgan Stanley have tended to move pretty much in unison when it comes to the economic analysis on Japan (non colluding!). Of course, this is very much due to the fact that I always make sure to read, at least, what the MS' Japan analysts have to say before saying anything myself on Japan. In this way, it is one thing to actually follow other analysts whereas an entirely different thing is to agree with them. However, it just so happens that I have largely agreed with the way Sato in particular covering the day-to-day analysis and Feldman have narrated the Japanese economy in 2007. This time around however it seems that Morgan Stanley might just be trailing me and my colleagues at JEW a little bit. At least, the following sounds very much as the tone which has been banging from the pages of Alpha.Sources' Japan pages as well as of course Japan.Economy.Watch' (JEW link above) day-to-day coverage and analysis for some time now.

Japan's economy is headed for a ``mild recession'' that could be worsened should a bigger-than- expected U.S. slowdown halt the nation's export-led expansion, Morgan Stanley said.

``It's time to buckle up,'' Takehiro Sato, chief Japan economist at the investment bank, said in a report yesterday. Sato cut next year's growth estimate for Japan in half, saying ``errant'' government policy has hurt consumers and the building industry at home, and credit problems stemming from the subprime- mortgage crisis will stifle demand from abroad. The world's second-largest economy is becoming more dependent on overseas markets just as world growth looks set to slow. Policies meant to protect homeowners from building fraud and borrowers from predatory lenders have hurt an economy that's already struggling with falling wages and record gas prices. ``The foreign-demand growth scenario for Japan's economy appears to be approaching a tipping point,'' Sato said. ``Coming on top of high energy prices, the fallout from the subprime crisis and errant policies will likely cause economic activity to stagnate.'' Sato slashed his 2008 growth estimate to 0.9 percent from 1.9 percent a month ago. He considers growth of less than 1 percent ``for an extended period,'' to constitute a ``mild recession.''

Of course, you would be well entitled at this point to ask just what this idea of a mild recession actually means. According to Sato it is defined by growth in the sub 1 % category for an extended period as you can confirm above. The question would then seem to be whether in fact not Japan might be heading for negative growth rates too? Difficult to say but the risk is definitely there I think. Also, I really want to warn against the discourse which is emerging about all this being the result of errant government policy. Institutions matter for sure but Japan's economy is faced with a far more potent driving force in its population structure and the last thing we need here is really that this is neglected while politicians are taking the heat even if those very same have not exactly put in a stellar performance. The thing is, people need to get their economic reasoning straight. Back in the beginning of 2006 and as we moved onwards from the ending of ZIRP in Japan myself and my colleague Edward Hugh were literally amazed to how the majority of the economic punditry came out exclaiming that now Japan was back amongst the leaders to paraphrase the FT's otherwise excellent Martin Wolf. And now suddenly it is the blame the politicians for the fact that it did not came to pass and not by a long-shot too. Something does not smell right here and I would be very discomforted to see if all this shored up yet again on the shoulders' of the 'institutions matter' paradigm since can these shoulders really take on more load as it is? You know, there is another side to this story too and far from being mutually exclusive we need both of them; institutions, policy and governance ... oh yes and demographics? Yes please!

Ok, sorry to be a rant here in the month of Christmas but I do feel rather strongly about this I am afraid.

Japan Consumer Confidence Index November 2007

Japanese households became the most pessimistic they've been in almost four years in November as fuel and food prices rose even while wage growth remained stationary, leaving consumers even less willing and able to spend. An index that measures confidence among households with two or more people slid to 39.8 last month from 42.8 in October, the Cabinet Office said in Tokyo today. A reading below 50 means pessimists outnumber optimists.




The drop prompted the government to cut its assessment of consumer confidence for a second straight month, the first back- to-back downgrade ever. Slower consumer spending at a time when demand in Japan's major export markets may be waning will almost certainly compel the central bank to keep borrowing costs oh hold in coming months.

Japan Economy Watchers Index November 2007

Well, even while machinery manufacturers ride on the back of strong export demand, the internal situation in Japan continues to deteriorate. The latest indication of this is the November edition of the Economy Watchers Index. This survey of barbers, shopkeepers and others who deal with consumers, fell for an eighth month to 38.8 from 41.5 in October, the Cabinet Office said today in Tokyo (Japanese only at present). A number less than 50 means pessimists outnumber optimists.



And we haven't seen the bottom of this yet, since merchants expect conditions to deteriorate in the next two to three months. The outlook index fell to 38.8, the lowest since March 2003, from 43.1 in October, and the Cabinet Office downgraded its assessment for the index for a second month, saying that sentiment is "very weak" having described it simply as "weak" in October.

And confidence at small businesses, which employ more than half of the Japan's workforce, is deteriorating according to an index of sentiment published by the Shoko Chukin Bank. This survey is carried out among small and midsized companies, and fell to 46.9 in November, the eighth straight month pessimists outnumbered optimists.

Japan Machinery Orders October 2007

Japan's October machinery orders rose at a rapid 18.7% year on year clip, signaling that companies have been increasing spending plans to meet Asian and European demand for chips, cars and electronics. Private sector orders climbed 12.7 percent to 1.08 trillion yen ($9.7 billion) from September, when they fell 7.6 percent, the Cabinet Office said in Tokyo today. But the biggest push came from government orders (up 21.6%) and overseas demand (up 16%). As can be seen in the chart below (click-over for better viewing), overseas demand has been much stronger than total domestic in recent months.





Orders for manufacturing equipment climbed 10.2 percent, the Cabinet Office said. Service companies increased orders 8.8 percent. Machinery orders indicate business investment in the next three to six months.



Exports to China and Europe, we should remember, surged to a record in October prompting companies to spend more on factories and equipment. And just to remind us of this I am again reproducing the key chart, which indicates just how the composition of Japanese exports is changing, with Europe and China more than making up for an absolute and relative decline in the importance of exports to the US (on all of which see this post here).




Sales overseas, we should remember, were responsible for almost all of Japan's economic growth in the third quarter. But we should also remember that the Economies of Japan's European customers are now slowing, while China is entering a "battle of the titans" type confrontation with an inflation process which is increasingly getting out of control, with an uncertain prognosis over the immediate and mid-term future.