Market Strategy: Deflation deepens in Japan
Japan is heading back to the 1990’s when deflation stopped government to come up with enough tools to boost the Nippon economy.
In October the headline CPI fell 2,5% yoy and the underlying deflation (excluding food and energy) is comparable to the 2001 levels a period of real crisis in Japan. The perspective are for the moment positive since economists expect a lull if we take in consideration that the impact of the commodity prices fall over the past year is behind us.
Macquarie deflation risk indicator (based on the IMF methodology) indicates a situation as bas as a decade ago. The IMF methodology is based on four relevant areas: aggregate prices, measures of excess capacity, asset markets, and credit and monetary indicators.
The issue with deflation is that government cannot use monetary policy anymore since interest rates are already near the 0% level. It was Japan’s case for years in the 1990’s. For example recently central bankers in Europe and US were able to end the recession using a quantitative monetary policy (interest rate almost at 0%) but in case of deflation this strategy will have no effect. We understand now the reason why Mr. Bernanke and Mr. Trichet keep interest low for a long period of time … hoping to push people to consume today and push prices up bringing back inflation.
Japan’s central bank did not have the luxury to be able to decrease its interest rate since it was already near 0% and that is a problem. It seems the government did not prevent deflation to reappear and today the situation worries many economists. Even the government has declared recently that deflation should be around for the next few years. The period of the 1990’s was terrible for a generation of Japanese so the thought of a new period of deflation would be devastating on the new generation.
The Japanese government seems unwilling to do anything about it. At the same time we are talking about a government that claimed for years that Deflation was not a problem for its economy. Sometimes it makes me wonder if they really understand what is at stake. Maybe the politics are so fed up with this situation that they don’t believe they can opt out of it.
Anyway, the reality is that except pouring liquidity in the market, like the promised ¥10 trillion to face the Dubai debacle, the government does not have any other tool to get out deflation. When we know that Japan is already the more indebted economy of the G7 countries it makes us wonder if this strategy will work much longer.
If deflation is really here for the next three years, then the Japanese domestic economy will be again in the dark. The Japanese stock market will be driven by exporters once again. If, like I believe, world economic growth will be slow in the coming years, then Japan is entering another rough period.