Re-thinking trade policy in an era of expensive energy

In an era of expensive energy, Japan's lack of natural resources and distance from markets (except China) are significant liabilities. Consider Morgan Stanley Ship Hauls Frozen Gas 14,500 Miles to Tokyo - Bloomberg:

"Japan’s gas-fired power plants are boosting output to compensate for nuclear reactors shuttered since last year’s earthquake, driving Asia-bound cargoes to a record. The U.S. has surplus natural gas extracted from shale rocks deep underground, and while it lacks a facility to liquefy that fuel for shipping, cargoes delivered to the country under longstanding contracts can be re-exported when overseas prices are higher.

“There’s a huge arbitrage,” Arctic analyst Erik Nikolai Stavseth said by phone yesterday. “When someone is willing to pay that much to move gas from A to B, it tells you demand is very strong.”"

Specifically, "One million British thermal units of LNG costs $17 in Japan and $2.62 on the U.S. Gulf Coast ."

At differentials that great, it's not inconceivable that the US could develop a trade surplus with Japan.

Japan's economic problems in summary

Chris Martenson has released an interesting essay Japan Is Now Another Spinning Plate In The Global Economy Circus and provides a neat summary of the issues the country is facing:

-The total shutdown of all 54 nuclear plants, leading to an energy insufficiency

-Japan's trade deficit in negative territory for the
first time in decades, driven largely by energy imports

-A budget deficit that is now 56% larger than revenues (!!)

-Total debt standing at a whopping 235% of GDP

-A recession shrinking Japan's economy at an annual rate of 2.3%

-Renewed efforts underway to debase the yen

Efforts to weaken the currency are unlikely to be successful because in particular the USA is pursuing the same strategy.

Martenson supports the thesis made previously here:

"It is a very big deal that Japan is slipping into negative trade territory for the first time in three decades. Last spring I was writing about how the global flow of funds -- the massive tide of liquidity sloshing back and forth -- involved Japan to a large degree. Japan was the hub of a massive carry trade, was buying huge amounts of US Treasurys and, in general, was a vast emitter of liquidity flows to the world.

With its reconstruction costs and now with its trade deficit, Japan becomes a net consumer of funds. In other words, the flow of funds reverses. This represents, at the very least, a change to the global liquidity tide charts."

Japanese annual trade deficit reflects industrial strategy reversal

Japan's energy and industrial policy that has been in place since the oil crisis of the early 1970's has been overturned.

Reuters reports today that Japan's first trade deficit since 1980 raises debt doubts:

"Japan runs trade deficit of $32 bln in 2011
Dec exports -8.0 pct yr/yr, imports +8.1 pct"

A key is the problem of increased reliance on fuel imports due to the loss of nuclear power. Only four of the country's 54 nuclear power reactors are operating.

To make up the energy gap, Japan increased fossil fuel imports 25.2%, almost one third of Japan's total overseas spending. Imports of oil, gas and coal all increased. Alternatives to fossil fuel will take years, if not decades to implement. These facts suggest that Japanese demand will add significant support to global hydrocarbon prices.

Another issue is offshoring; Businessweek reports that:

"Manufacturers from Panasonic and Honda to Sony Corp. and Toyota Motor Corp., which helped fuel three decades of trade surpluses, are moving output overseas as the yen trades near a postwar high, making exports less profitable."

A declining population also provides incentive for offshoring simply to find workers to staff manufacturing operations. Moving the work offshore also avoids cultural complications from the possible alternative strategy of allowing foreign workers to immigrate.

Japan decided to enter the military arms market

The FT reports that "Japan relaxes weapons export ban", stating that

"Tokyo has relaxed a decades-old ban on arms exports, opening the way for Japanese companies to participate in the international development and manufacture of advanced weapon systems."

This is clearly a move to bolster the country's manufacturing sector and avoid current account deficits, as China's economy has slowed down.

It appears that Japan's economic and budgetary problems are beginning to break down domestic resistance to significant policy changes. Further major changes are likely, although the timing is difficult to predict.

There is still internal resistance to increasing taxes to help with the national budget:

DPJ members bolt party on Noda tax plan | The Japan Times Online

"In a show of defiance against Prime Minister Yoshihiko Noda's policies, in particular a plan to raise the consumption tax, nine Democratic Party of Japan lawmakers submitted their resignations Wednesday to protest Noda's leadership."

Entering a new market, however distasteful, appears to be more appealing to the Japanese public than increased taxes.