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Economists generally upbeat on Japan’s 2018 outlook

by Kazuaki Nagata

Staff Writer

Japan is experiencing its second longest economic expansion in the post World War II era, with economists expecting the positive tone to hold through 2018 amid strong demand at home and abroad.

One key factor behind the boon this year, according to some economists, may be that companies could spend stockpiled cash reserves more actively to raise wages and make capital investments to overcome capacity constraints and improve productivity.

As for wages, some, but not all, say they are optimistic this year will see pay increases for part-time and full-time workers.

Another theme to watch is inflation, as it is likely to pick up, since domestic demand is expected to increase despite the labor shortage. This might prompt the Bank of Japan to make some adjustments, including allowing the 10-year government bond yield to rise slightly, a sign that it may seek to end its ultraeasy monetary policy.

“In terms of the growth picture, 2017 turned out be even better than we expected … (and) we remain very optimistic” this year as well,” said Izumi Devalier, an economist at Merrill Lynch Japan Securities.

According to estimates by Merrill Lynch, Japan’s real gross domestic product growth for fiscal 2017 was 1.8 percent, which is expected to keep a moderate growth rate of 1.7 percent in 2018.

Last year, exports were strong due to vigorous external demand that resulted from a stable global economy, a trend that is likely to continue this year, albeit at a slightly weaker pace, Devalier said.

As for domestic drivers, economists said companies will be motivated more to spend a greater chunk of their reserves, an amount that hit a record ¥406 trillion in fiscal 2016.

Daiju Aoki, chief Japan economist at UBS Securities Japan, said in a seminar last month the amount of cash available totaled 12 percent on average of the assets held by Topix 500 firms in June. This is significantly higher than the 6.9 percent and 6.5 percent for S&P 500 and MSCI Euro firms, respectively.

“We haven’t really seen a surge of capital investment, although the environment (to do so) has been good. I think we will finally see an increase in 2018,” said Shinichiro Kobayashi, principal economist at Mitsubishi UFJ Research and Consulting.

Kobayashi noted that construction of hotels and infrastructure is promising this year, as the country gears up for the Tokyo Olympics and Paralympics in 2020.

Devalier also said the outlook for capital expenditure is favorable.

“What we’ve seen over the past year and half is a genuine improvement in export volumes that’s been driven by an improvement in global demand. So, that’s very positive for capital expenditures,” she said.

In addition, the labor shortage will pressure companies to invest more in IT and automation to improve productivity, she said.

The BOJ’s tankan survey last month suggested that companies are experiencing more capacity constraints, a sign that they may be ready to invest more.

The labor shortage is becoming a grave issue. The internal affairs ministry said the jobless rate dropped to 2.7 percent in November, which was the lowest since November 1993. In contrast, the ratio of job offers to job seekers hit 1.56, the highest-level since January 1974.

Theoretically, people’s wages go up when companies are short on labor. But in fact, they haven’t. Data from the labor ministry shows that the real wages — on a year-on-year basis — fell for four consecutive years up to 2016, which finally saw a 0.7 percent jump. That is despite the fact that many major corporations have been enjoying steady profits in the past several years.

“It is true that the economic growth trend has taken place over a long period of time, but the growth rate has not been very strong,” Kobayashi said. “Companies are likely feeling the upbeat economy but households not so much.”

Basically, “companies are reluctant to raise wages (of full-time workers) because it would push up their fixed costs,” he said.

According to the Cabinet Office, the hourly wage of part-time workers rose by 10 percent between 2007 and 2016, while the figure was 1.5 percent for full-time employees.

Companies have been hiring more part-time workers, including housewives and seniors, so the labor population and household incomes have been growing.

But this does not really translate into increased spending because part-time laborers could be laid off at any time, Kobayashi added.

Kobayashi said firms are becoming more aware that they will need to raise wages to secure human resources, but the momentum for such a hike probably won’t be that strong.

Frustrated with the situation, the government is eyeing a plan to push cash-rich firms to raise wages by giving incentives such as corporate tax cuts.

If big companies raise wages 3 percent or more on a year-on-year basis and make capital investments that are 90 percent or more of their depreciation costs, they can receive a 20 percent tax deduction from the wage increase cost.

But some economists said the impact of the policy will not be very effective.

Devalier said the size of the tax break is quite small, while most companies are loss-making, so it only affects a small number of firms.

“It’s better than nothing … (but) it’s not the game changer,” she said.

Devalier said even without such tax-cut initiatives, she is optimistic about wage hikes due to the labor shortage, saying that upcoming spring labor-management negotiations could see a 0.6 to 0.7 percent base pay increase.

As for inflation, which is still short of the BOJ’s 2 percent target, it is likely to pick up this year, some economists said.

Japan is expected to see steady domestic demand this year but the labor shortage will put pressure on companies to increase prices, said Aoki of UBS.

For instance, Japan Post is planning to raise parcel delivery rates by 12 percent starting in March, and this will spread to other companies in the logistics industry, Aoki said.

Devalier said the country will probably see about 1 percent inflation excluding fresh food and energy in the second half of this year.

Once the BOJ sees inflation starting to pick up, it will possibly let the yield on 10-year government bonds edge up to around 0.25 percent, she said.

This will be a change from the current so-called yield-curve control strategy to keep the rate around zero, so it might be perceived as a step to normalize the ultraeasy monetary policy. Thus, the BOJ will have to ensure it properly communicates with the markets, said Devalier.

“If that communication doesn’t go well, you could get volatility in the Japanese market,” she said.