2016: Japan’s year of living dangerously?

Higher interest rates in the United States, a slowing Chinese economy, and a near-recession in Japan point to a mixed outlook for this nation in 2016. With the pressure mounting on Abenomics, how will the world’s third-largest economy survive in the Year of the Monkey?

Foreign pressure

“2015 was the year of the China slowdown — now you don’t find a single corporation, whether it’s in Japan or the United States, expecting high growth in China,” said Jesper Koll, CEO of WisdomTree Investments Inc Japan.

China’s slowdown from its previous double-digit growth rate continued in 2015, with third-quarter GDP data showing a 6.9 percent annualized expansion, representing the slowest pace since 2009. Chinese government think tank the State Information Center has predicted GDP growth of only 6.5 percent this year. But Koll says 2016 could actually be a better year than expected for the world’s second-largest economy, should Beijing deliver greater fiscal and monetary stimulus.

“While 2015 was the year of revising down expectations, 2016 could actually become the year of revising up, because the leadership in China is stimulating the economy. You’re seeing interest rate cuts and you’re very likely also to see stimulative fiscal policy. Japan’s [Prime Minister Shinzo] Abe and China’s President Xi Jinping actually have a lot in common in the sense that they both are using monetary and fiscal policy to stabilize their economies,” he said.

Softer growth in China has also weighed on Asia’s emerging markets, with Southeast Asia expected to bear the brunt of the slowdown. Nevertheless, in its latest outlook, the Asian Development Bank (ADB) said the region’s developing economies would expand by 6 percent in 2016, led by India, which is tipped to post 7.8 percent GDP growth this year.

The official birth of the ASEAN Economic Community on December 31, 2015, should spur greater interregional trade, with estimates of a 7 percent boost to aggregate output by 2025. For Japan, Abe’s promises to up the ante on the Asian Infrastructure Investment Bank with $110 billion of regional financing, together with the ADB, should ensure more orders for Japanese machinery and other exports.

The year of the dollar

The US Federal Reserve’s policy tightening announced December 16 should progress further in 2016, spurring capital flight toward dollar-denominated assets and putting upward pressure on the dollar rather than the yen. However, not all expect the yen to weaken significantly, with Morgan Stanley predicting that the yen will actually strengthen to ¥115 against the greenback by the end of the year, compared with the median analyst forecast for the Japanese currency to weaken to ¥126, according to Bloomberg News.

Yet, should US wage growth start accelerating, economists suggest the Fed could abandon its proposed gradual path for a quicker pace of rate hikes. Conversely, as a “safe haven” currency, the Japanese yen is at risk of strengthening in any international crisis, such as a major terrorist incident or geopolitical shock.

Cheaper energy to continue

One shock not expected in 2016 is energy. Coal, gas, and oil prices are forecast to remain low this year amid continued oversupply, delivering a further free kick to growth for import-dependent Japan.

Brent crude slumped to a six-year low of $37.75 a barrel last August, amid estimates the global market is oversupplied by as much as 2 million barrels a day, helped by surging output from both OPEC and non-OPEC members.

Meanwhile, a glut in liquefied natural gas of an extra 130 million tons per year over the next five years should see Asian gas prices sink even lower, according to researcher Wood Mackenzie. Coal prices also tumbled to 12-year lows in 2015, delivering another headwind to Japan following the shutdown of its nuclear power industry.

Cheaper energy is expected to cut Japan’s trade deficit by around 2 percent of GDP, while lower prices should boost GDP for fiscal 2015 (ending March 31, 2016) by around 0.5 percent, according to the Daiwa Institute of Research.

Abenomics 2.0

Japan’s near-miss with recession in 2015 gave Abenomics critics plenty of ammunition, although stronger growth is expected this year. In September, Abe announced a reboot for Abenomics that includes a growth target of ¥600 trillion ($5 trillion) by 2020, maintaining a 100 million-strong population for the next 50 years, and enhanced social security measures, with a goal of expanding the labor force through inclusion of more female and elderly workers.

Government ministers have pointed to record corporate profits, rising wages, and the tightest labor market in 23 years as evidence that the anticipated virtuous cycle is finally kicking in, while rising tax revenue aids planned fiscal consolidation efforts.

The announcement of the second stage of Abenomics offered a raft of reforms, ranging from increased use of information technology, reform of the medical and healthcare industries, and measures to attract more inward foreign direct investment.

Tax reform is also on the agenda, with Tokyo aiming to cut the corporate tax rate to below 30 percent by 2018, even with a planned consumption tax rate increase to 10 percent a year earlier.

Abe also bolstered the economy by announcing a ¥3.5 trillion supplementary budget for fiscal 2015, with about one-third of that amount to be spent on measures to “dynamically engage” all citizens in society, along with funds to help farmers boost competitiveness following the launch of the Trans-Pacific Partnership free trade pact.

Growth upturn?

While both the International Monetary Fund and OECD expect Japan to post a modest 1 percent GDP gain in 2016, WisdomTree’s Koll says Japan could reach 1.7 percent, driven by stronger housing and private consumption.

“Twenty-fifteen was weaker than expected, primarily because of business investment, with businesses continuing to invest more overseas rather than returning to their home market,” he said. “A bright spot in 2015 was housing, and housing investment has been increasing now for three consecutive quarters . . . a very good leading indicator for stronger consumption into 2016.”

William Sposato, former Wall Street Journal and Dow Jones deputy bureau chief in Tokyo, said signs have emerged of a change in inflationary expectations, including such indicators as “core-core” inflation figures and a rising number of fixed-rate, compared to variable-rate, mortgages, which suggest home buyers think rock-bottom interest rates may be on the rise.

“Barring anything unforeseen, which would probably come in the military sphere, I think we’ll see fairly good growth . . . of around 1 to 1.5 percent, and [BOJ Governor Haruhiko] Kuroda will get to where he wants to go, eventually. So you’ll see solid growth, particularly in the big cities, and some turnaround in the countryside if foreign investment continues.

“Property prices outside the big cities are incredibly cheap by global standards, and Asians—not just Chinese but Singaporeans and Taiwanese—are coming to realize this, and that could provide a nice tailwind,” he said.

Entrepreneur Hitoshi Suga, who is a special advisor to the president of Tully’s Coffee Japan Co., Ltd. and a visiting professor at Akita International University, suggests Japanese companies will enjoy an improved competitive position in 2016. “The Japanese yen has weakened in recent years compared to the Chinese renminbi and [South] Korean won, giving a competitive edge to Japanese exports. Japan still has a competitive advantage in the United States and Southeast Asia, and that may maintain the momentum of the Japanese economy, even though many companies are suffering from China’s downturn,” he said.

One sector of Japanese business expecting gains in the Year of the Monkey is the underwear industry, which is promoting red underwear to bring health and good luck. Amid a cloudy outlook, Asia’s economic heavyweights of Japan and China might share a love for the same color in 2016.

Custom Media publishes The Journal for the American Chamber of Commerce in Japan.

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