Japan's loss of AAA rating

The quote from Moody's is

"Japan's credit profile is Aa2

The unified rating of Aa2 reflects Japan's considerable strengths. These include Japan's large domestic savings, a strong home bias on the part of its domestic financial institutions and institutional investors, relatively low holdings of government debt by foreign investors, and Japan's $1 trillion of official foreign exchange holdings. Moody's believes the domestic market will absorb the record level of bond issuance this year to fund the government's economic stimulus program. However, the rating also reflects the risks of Japan's high level of debt, which leaves the country's fiscal position vulnerable to shocks or imbalances that would cause a sharp rise in interest rates. The ratings also reflect the sizable but temporary increase in the government's budget deficit caused by the severe effects of the global collapse in trade and recession on the Japan's economy. Further, Japan's large foreign exchange reserves, although large compared to those of most other countries, are only a small fraction of its liabilities and could not alone eliminate refinancing risk at a time of severe stress."

Here is a look at the trend in Japan's government debt(courtesy of Edward Hugh):

That net debt number is likely to exceed 100% of GDP in 2009. Moody's noted that very little of this debt is held by non-Japanese. Of course, one of the primary causes of this is the fact that much of this debt was issued at extremely low interest rates. So it was relatively unattractive to foreign investors. Japan's government debt amounts to the country's citizens avoiding taxation now with the expectation that the country's future productivity will be great enough support repayment of the debt in the future without ruinous taxation levels.

The Bank of Japan holds over $600 billion in US Treasury debt. In theory, the proceeds from these holdings as they mature could be used to reduce the outstanding domestic debt over time. Of course, that would put upward pressure on the yen versus the dollar and thereby weaken the country's export sector. The decision that faces Japan's leadership today is whether to continue to depend on exports, or shift policy to supporting the domestic sector more and thereby increasing the proportion of GDP generated domestically. Such a shift would result in short term difficulties, but in the long run would serve the Japanese public best.

Other weaknesses of Japan include the fact that it has no meaningful defense forces, and its agricultural sector cannot produce enough to feed the country's population for any meaningful length of time. Also, Japan relies on imported fuels for over 80% of it's energy needs.

Another issue is that somehow the fact that Japan has been running inflationary policies for 18 years now is easy to miss when their nominal numbers all are so flat. It was easy to see the inflation get exported to the US and the rest of the world through the carry trade mechanism. The question that doesn't seem to be asked is where all of those yen went after the carry trades were unwound. At some point the BoJ has to remove the excess yen, which would obviously be deflationary, or we should expect a collapse in the yen.

(A cross post by Scott Peterson from Wasatch Economics)

Japanese Housewives Back in the Game?

By Claus Vistesen

I am sure all investors, analysts, and commentators have been tracking a wide range of indicators to gauge whether the shoots of green would continue to spark or whether it was merely a blip on the way down. Clearly, this has been and is a little more than a blip I think and for my own part, decisive evidence came today that things might have changed. I am of course talking about the Bloomberg report (also here) that Japanese housewives are once again making their presence felt in currency markets playing the carry wheel.

Individual investors in Japan increased bets to the most in six months that the yen will weaken as the economy stabilizes, jumping back into a trade that was all but wiped out last year.

Businessmen, housewives and pensioners held 153,326 margin contracts at the end of last month that will make money if the yen declines against currencies ranging from the euro to the Australian and New Zealand dollars, according to the Tokyo Financial Exchange. All told, they may have as much as $125 billion in yen so-called short positions, RBC Capital Markets strategists said. “Investors believe the worst of the global recession is over and higher-yielding currencies are bottoming out,” said Yoshisada Ishide, who oversees $1.8 billion as a Tokyo-based fund manager at Daiwa SB Investments Ltd., a unit of Japan’s second-biggest investment bank.

Now, I have had my eyes on the Japanese housewives on more than one occasion (especially here) because I think that the tendency of Japanese retail investors to scour the global economy for yield runs a bit deeper than a simple carry trade play. Well, it is of course a carry trade but the underlying impetus for Japanese retail investors to act as they do also has something to do with a decline in home bias due to a low domestic interest rate environment as a result of demographics and subsequent sluggish domestic demand. The point is simply that one of the only ways Japan can achieve sustained is to mobilize its large stock of savings and, more importantly, to mobilize it abroad (e.g. through the purchase of samurais) in order to get the yield which is not obtainable in the domestic capital markets.

In the current environment of financial crises, great depressions, and credit crunches Ms Watanabe et al. have of course, in line with most other risky asset punters, been pulling back their fangs. However, with the recent narrative of green shoots and second derivatives it was also always going to be the question of when, if at all, carry trading would return as per function of declining volatility and appreciation of risky assets. As I have suggested lately, tentative signs have emerged that carry trading activity has slowly been coming back.

Now, it can be debated whether the apparent return of the Japanese housewives to the carry trough represents evidence of a solidification of the green shoots or, as a friend suggested to me, a contrarian indicator that things will soon hit the fan again. This particular friend of mine is an investor, so you are probably better off listening to him than me. There is also the small question of the targets for Ms. Watanabe's allure in the form of the usual, OECD, suspects such as the Kiwi, the Aussie, and the Euro.

Looking at the chart to the right the recent three months which have been marked heavily by the green shoots discouse, it is quite obvious to see that the JPY has depreciated accross the board against the usual suspects. It is difficult to say whether MS. Watanabe has had a hand in this, but more interestingly is also the fundamental question of where the carry trade activity is going to be conducted in the future?

Specifically, it will be interesting to see whether there is going to be a change in the game whereby the OECD economies currently engaged in QE and with subsequent credible commitments by the central bank to keep rates low become funding for a carry trade to exploit the potentially "low volatility" growth (yield) in places such as India, Brazil and Turkey. Clearly, the BOJ has the mother of all credible commitments here in the sense that nominal interest rates have hardly budged the zero bound for more than a decade even in the midst of booms. This last point need careful watching I think as well as of course we might as well get another bout of volatility which could fold the, after all, fragile green shoots.

So, it does indeed seem as if the Japanese housewives are back in the game, but another fundamental question is whether the housewives ever left the game. This is to say that we need to look at structural long term outflows as well as more short term punting in order to really understand the what drives MS Watanabe and her fellow Japanese retail investors.

Japan's Economic Contraction Stabilises In March

Japan's contraction showed signs of easing in March, even though the recession has now set in for the duration, the deepest point may well have been passed. The ship may be stable, but it is still far from being right side up.

Industrial Output Up On The Month

Japan's industrial output rose in March (more than anticipated), and showed the first gain in six months, suggesting that the steepness in the plunge in production and exports may be softening. The rise followed a record 10.1 percent fall in industrial production in January and a 9.4 percent drop in February. Manufacturers also forecast further gains in production in the coming months, suggesting output may be bottoming out after the sharpest decline on record in the first quarter of the year.

Industrial production rose 1.6 percent in March, more than the 0.8 percent rise forecast by the economic consensus. In the monthly ministry survey manufacturers stated they expect output to rise 4.3 percent in April and 6.1 percent in May.




This impression is also confirmed by the latest Nomura/JMMA Japan Manufacturing Purchasing Managers Index reading, which rose to a seasonally adjusted 41.4 in April from 33.8 in March, the steepest gain since data were first compiled in October 2001. However the index remained below the 50 threshold that separates contraction from expansion for the 14th straight month.



Japan is currently passing through its worst recession since World War Two. Following a 3.2 percent slump in the fourth quarter the economy is expected to contract even more in the first quarter, despite some tentative signs of a softening in the contraction. Exports, for example, rose in March over February, the first month on month expansion since September last year.



Retail Sales Fall Again In March


Japan’s retail sales fell for the seventh consecutive month in March, and were down by 3.9 percent from a year earlier in non price adjusted terms. This follows a 5.7 percent drop in February - the steepest pace of decline since February 2002. From a month earlier, seasonally adjusted retail sales dropped 1.1 percent in March, to record their sixth straight monthly decline.



With the economy in such a sharp contraction, and unemployment rising, families are obviously apprehensive about the future, and have been spending less. Average monthly household spending declined 0.4 percent from the previous year in March, according the Ministry of Internal Affairs and Communications. The average household spent 310,680 yen ($3,186). This follows much steeper annual declines of 3.5% and 5.9% in February and January respectively. So, in line with other indicators, the household spending picture did improve slightly in March, and retail sales were not falling as fast as they had been.




Confidence among Japanese small traders rose to an eight-month high in March, adding to signs that the economic situation improved somewhat. The Economy Watchers index, a survey of barbers, taxi drivers and others who deal with consumers, climbed to 28.4from 19.4 in February, the second-biggest jump on record, according to the Japanese Cabinet Office.



Japan’s consumer sentiment alos rose - to a five-month high - in March, and the confidence index climbed to 28.9 from 26.7 in February. The index has now advanced for three consecutive months since after plunging to 26.2 in December, its lowest level since the government began compiling the figures in 1982.




However, Japanese wage earners' total cash earnings fell at the fastest rate in nearly seven years in March from a year earlier, as companies worked desperately to cut costs. Overtime pay fell a record 20.8 percent from a year earlier as many Japanese manufacturers stopped factory lines following the plunge in global demand. Total cash earnings fell 3.7 percent to 273,561 yen ($2,805) in March, the largest fall since July 2002, when wages fell 5.7 percent. It followed a revised 2.4 percent drop in February. Both disposable income and real wages have been falling sharply since the start of 2009.





Deflation Setting In Again


Japan’s consumer prices - as measured by the general index - fell for the first time in more than a year in March, a sure sign that deflation is resolutely raising its ugly head again. The general index fell by 0.3%, while consumer prices excluding fresh food declined 0.1 percent from a year earlier. The core core index - excluding both food and energy - also fell 0.3%. Bank of Japan Governor Masaaki Shirakawa argued last week that he sees little risk of a deflationary spiral, even though the BoJ policy board forecast that consumer prices will drop 1.5 percent this fiscal year and 1 percent in the year starting April 2010.

Unemployment On The Rise

Japan's unemployment rate jumped to 4.8 percent in March, the highest level in more than four years. The total number of unemployed people rose by around 670,000, or 25 percent, from a year earlier to 3.35 million in March. The unemployment rate, which was 4.4 percent in February, is now the highest since August 2004, although it is still below the post-World War II high of 5.5 percent last seen in April 2003.



But behind the headline unemployment numbers, a very significant restructuring would seem to be taking place in the labour force. If we look at the charts below (which shows the size of the "regular" - permanent contract - labour force, as well as movements in the employment of full time and part time workers), it is evident that there was a sharp drop in the regular workforce (around a million) between December and January. Since total employment did not reflect this change, it would seem that there was a significant change in the form of contract (structural reform) and this increase in temporary and part-time employment would seem to be reflected in both earning figures and spending patterns.









The Japanese economy is set to shrink by 3.3 percent this fiscal year according to the latest government forecast, and by 6.1 percent in 2009 according to the IMF spring forecast. Finance Minister Kaoru Yosano said last week that the economy remains in “crisis” as the slump in exports and factory output evidently will continue to take a toll on employment. Prime Minister Taro Aso's Cabinet recently submitted a massive supplementary budget to finance a new stimulus package. Aso has called for a record additional 15 trillion yen ($155 billion) in government spending, equivalent to about 3 percent of Japan's gross domestic product. The government argue the newest stimulus package will help protect the economy from slipping further while laying the foundation for future growth, including incentives for buying "eco-friendly" cars and home appliances. It also provides support for the unemployed and small businesses. However, despite such bold claims the Japanese governments hands are most firmly tied by the very large levels of existing debt (see chart below), with the IMF forecasting that Net debt will rise to 103.6% of GDP in 2009, and gross debt to a staggering 217% of GDP. So basically, however much the current stimulus package may serve to soften the blow of the downturn in global trade on Japanese households any real recovery will have to await a recovery in global trade, and despite all the current talk of "green shoots" everywhere, we are still some way from being able to perceive this at this point.

Japan's Export Decline Slows (Slightly) In March

The rate of decline in Japan’s export slowed in March, after four-months of record breaking contractions. Evidentally this constitutes some sort of sign that the intensity of the recession may have started to ease.





Overseas shipments were down 45.6 percent from a year earlier, as compared with February’s unprecedented 49.4 percent plunge. Most notable was the fact that (on an annual basis) shipments to China were only down 31.5 percent following a 39.7 percent drop in February. Exports to the U.S. also fell less rapidly, but the contraction rate was still very high (51.4 percent following a massive 58.4percent fall in February. Exports to the EU were also down heavily (56.1 percent) while those to Russia were down a shocking 83.3%. One should not read too much into the US figure, since demand in the US started weakening much earlier in the US than it did in China, hence these large numbers are even larger when you think of the original starting point. Insofar as there is any rebound in the Japan numbers it is largely "China related" in some way, shape, or form.



On a seasonally adjusted basis, exports rose 2.2 percent month on month from February, the first such increase since May 2008.

As many are saying, it would be premature to celebrate at this point, since evidently the Japanese economy is in its most severe recession since WWII, but we could say that while the economy is spiraling down, at least it’s no longer spiraling down at an accelerating rate.

Trade Deficit In Fiscal 2008/09

Japan suffered its first trade deficit in nearly 30 years in the year to March, highlighting one more time the continuing vulnerability of the Japanese economy to external demand movements. Japan posted a trade deficit of Y725.3bn in fiscal 2008, its first full-year negative trade balance since 1980.



The trade deficit last year reflects the sharp rise in commodity prices earlier in the year and the severe contraction in exports, which has now lasted six months. Imports fell less than exports last month, and were down only 36.7%, and as a result Japan once more had a trade surplus (of Y11bn, 99 per cent down from a year earlier).