InvestmentsNov 4 2013

Patience required for Japan recovery

twitter-iconfacebook-iconlinkedin-iconmail-iconprint-icon
Search supported by

Japan’s prime minister Shinzo Abe gained power last year with a promise that he would re-energise the country’s ailing economy based on a “three arrow” plan of monetary policy, fiscal policy and structural reforms.

The move, which has since been dubbed “Abenomics” fuelled rapid rises in the country’s stockmarket and has also helped to weaken the yen, the strength of which had impacted company profitability and the country’s exporters.

But while fund managers are largely supportive of the impact Abenomics has had so far –seen in improved GDP numbers, business confidence and core inflation reaching zero for the first time since 2009 – they argue structural reforms that will have a lasting impact on the economy are some way off.

These include labour reforms to get more people in full-time employment and the removal of trade barriers that have been enacted as protectionist policies.

Scott McGlashan, co-manager of the £511m JOHCM Japan fund, said there were encouraging signs in Japan of an increase in consumption that “clearly shows the population expects times to get better”, but that the third arrow of structural reform “remained in its quiver”.

“We have not seen structural reform simply because the economy is chugging along quite nicely,” he said.

“The urgency has diminished for the third arrow and the mixture of policies will be potential vote losers. There is more of a political battle to change things like employment laws.”

Mr McGlashan said for Abenomics to succeed in the long term, structural reforms would need to be seen in the next three-to-five years.

But the manager said a positive economic cycle could be created by the weaker yen because profits in yen terms will rise this year.

“If companies invest, it stimulates more growth and if they pay higher wages it helps retail sales, which means you get a virtuous circle,” he said.

Chris Taylor, manager of Neptune’s £193.2m Japan Opportunities fund, agreed the first two arrows of Mr Abe’s plan had worked in terms of boosting domestic consumption, creating inflation and auguring a 15 per cent weakening of the yen from its peak in 2012.

But he said labour reforms and agreeing to changes of the Trans-Pacific Partnership, which would help remove trade barriers, were longer term changes that investors would have to wait for.

“Arrows one and two have already changed things as the yen has come down, there is real positive economic growth, positive inflation and consumption is growing in real terms – these are fundamental improvements,” he said.

“The next batch is related to the domestic economy in terms of profits feeding through to increase full-time employment and increased wages, which will increase consumption and improve the government tax take.”

He added that while Japanese companies had benefited from a rise in profits because overseas earnings now transferred into a greater amount of yen, this had not yet fed through to wages.

“The benefit of that has not fed through to wages or an increase in the amount of full-time workers,” he said.

“That is the key to getting the domestic economy going. We will have to wait and companies will spend money on wages and employment.”

Hideo Shiozumi, manager of Legg Mason’s £235m Japan Equity fund, which is a member of the Investment Adviser 100 Club of top performing funds, said that the economy had improved “substantially” in the past 10 months and that the Abe reforms had produced a “positive impact” on the economy.

But he said challenges remained and would need to be overcome for an entrenched recovery to happen.

“Now that Abe has made a decision to increase the consumption tax from the current 5 per cent to 8 per cent in April 2014, he will have to implement sufficient stimulus measures at the same time in order to offset the negative impact of the tax increase,” he said.

“The biggest challenges are for the Abe administration to achieve 2 per cent inflation in two years’ time, average growth of 3 per cent nominal and 2 per cent real GDP for the next 10 years and post a surplus in the primary balance by 2020.”