Japan: What does the future hold?

Estimated figures from the Cabinet Office of Japan show the economic damage of the disaster is approximately ¥16.9trn (£135.1bn), and the reconstruction period is expected to take 10 years at a cost of an estimated ¥23trn – ¥19trn of which will come in the first five years.

This is the latest issue for a country that has been at the centre of a deflationary spiral for decades, and which has a projected debt to GDP ratio of 233 per cent for 2011 according to the IMF’s definition, and 181 per cent according to the Cabinet Office’s figures.

As a result, the country suffered a ratings downgrade by Standard & Poor’s in January from AA to AA-, reconfirmed in April following the earthquake, while Moody’s also downgraded the country in August from Aa2 to Aa3.

In its rationale for the downgrade, Moody’s argued the action had been prompted by large budget deficits and the build-up in Japanese government debt since the 2009 global recession.

One of the additional drivers has been Japan’s constant change of administration in the past five years, with the latest prime minister, Yoshihiko Noda, taking over in August 2011.

Moody’s points out: “Frequent changes have prevented the government from implementing long-term economic and fiscal strategies into effective and durable policies. The March earthquake and tsunami, and the subsequent disaster at the Fukushima Daiichi nuclear power station, have delayed recovery from the 2009 global recession and aggravated deflationary conditions.

“Prospects for economic growth are weak, making it more difficult for the government to achieve deficit reduction targets and implement its Comprehensive Tax and Social Security Reform plan.”

However, unlike S&P, Moody’s has a stable outlook suggesting the home bias of Japanese investors and their preference for government bonds, allows the government’s fiscal deficits to be funded at the lowest nominal rates globally.

But the ratings agency highlights that the March disaster undermined Japan’s recovery from recession, as consumer spending has softened further and deflationary pressures have intensified.

This has partly caused Japan’s economy to contract for three consecutive quarters from October 2010 to June 2011, marking it as being officially in recession.

But Moody’s acknowledges that Japan’s large economy and deep financial markets offers the ability to absorb economic shocks. It adds: “Related to Japan’s home bias is its strong external payments position, which insulates the country from global financial market shocks. In addition to a seemingly structural current account surplus on the balance of payments, its net international investment position at more than 50 per cent of GDP is the largest of any industrialised advanced country, and is almost twice as large as Germany’s. Net income receipts from overseas assets provide a bigger contribution to the current account surplus than the trade balance. The steady appreciation of the yen to post-war highs is a headwind against export competitiveness, although the lack of price and wage inflation in Japan somewhat offsets this effect. Even if exports falter, we expect Japan’s external position will retain its strengths.”