Abe’s reforms on target to deliver

This article is part of
Where to invest in 2014 - January 2014

Much of Japan’s economic resurgence in the past year has been attributed to the appointment of prime minister Shinzo Abe in December 2012 and his ‘three arrows’ strategy for recovery.

But as Japanese stocks rallied and GDP growth appeared in 2013 there are concerns about whether this will continue into 2014.

Latest figures from the Organisation for Economic Co-operation and Development (OECD) show that quarterly GDP growth in Japan remains erratic with the 1.1 per cent figure in the first quarter of 2013 declining to 0.9 per cent in the second quarter and to 0.3 per cent in the third quarter.

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In addition the OECD acknowledges growth in Japan will slow in 2014 and 2015 as a result of fiscal consolidation, but still expects a growth rate of roughly 1.5 per cent in 2014 and 1 per cent in 2015, but adds the sustained recovery will help push inflation towards the government target of 2 per cent.

Jason Hollands, managing director at Bestinvest, notes: “There has been increasing scepticism towards the reform programme of prime minister Shinzo Abe in recent months, and Japanese growth rates for Q3 have been revised down significantly.

“Yet if anything, the fear of policy failure will force the Bank of Japan to accelerate its shock and awe money printing programme. Combine this with the process of tightening in the US and strengthening the dollar and this should create a scenario that is both favourable to Japanese exporters and makes Japanese assets look cheap for international investors, spurring stock prices higher.”

But while two of the ‘arrows’ have been implemented with arguably a high degree of success, the third arrow of structural reform has been trickier.

Dominic Rossi, global chief investment officer equities at Fidelity Worldwide Investment, adds: “Investors will be looking for real evidence of prime minister Abe’s commitment to his third arrow of structural reform. The equity market in Japan tends to be quite policy-driven. The first two arrows in prime minister Abe’s radical economic programme – fiscal spending and monetary stimulus – should lead to increases in GDP growth in the next 12 months.

“Against this backdrop there is room for Japanese equities to move higher, but whether this rally will turn into a multi-year bull market is another matter. The answer will depend on Abe’s success in delivering his third arrow.”

The Japanese stockmarket has seen big gains, with the Topix index gaining 22.98 per cent for the year to December 12 2013 and the Nikkei 225 index up 23.32 per cent, compared with 15.38 per cent from the FTSE All-Share index and 20.56 per cent from the MSCI World index, although the S&P 500 index produced a slightly higher return of 25.74 per cent, according to FE Analytics.

With the government set to hike consumption tax to 8 per cent in April and then again to 10 per cent in 2015, there are worries this could affect market performance, but for many investors it is not a significant concern.

Andrew Cole, investment manager of the Baring Multi Asset fund, notes: “We remain positive on Japanese equities, though the government now faces the delicate task of dealing with politically sensitive structural issues, such as the reform of the labour market. We are confident that government policy is heading in the right direction and that the necessary adjustments will be made.”