A recent spate of warning signs that the economy is headed for a downturn means the government of Prime Minister Shinzo Abe may need to take corrective action sooner rather than later.
Worsening conditions — and upcoming elections — could push Abe to beef up fiscal stimulus or even postpone an upcoming increase in the consumption tax, analysts say.
On Wednesday the Cabinet Office downgraded its headline assessment of the world’s third-largest economy for the first time in three years. The move reflected a significant decline in exports to China and came after a key indicator of economic trends signaled that Japan may already be in a recession.
But Toshimitsu Motegi, minister for economic and fiscal policy, denied that the latest growth phase, touted to be the country’s longest since the end of World War II, has ended. “Our view that the economy is recovering moderately as a trend remains unchanged,” he told a news conference.
For Abe, the issue is crucial. During his six years back in power, his Abenomics policy mix of fiscal stimulus and drastic monetary easing has been his main support driver, trumping his divisive nationalist leanings and accusations of cronyism.
With elections at the local level and in the House of Councilors taking place this year, he needs to continue to paint a rosy picture if he hopes to secure a resounding victory for his Liberal Democratic Party and coalition partner Komeito.
Evidence of a downturn has been stacking up for some time.
Machinery orders, which are a leading indicator of capital expenditure, and industrial production have been falling for the past several months. Gross domestic product grew an annualized real 1.9 percent in the October-December quarter, an uninspiring rebound after a string of natural disasters caused a contraction in July-September.
“Is the economy still recovering? The truth is, it’s too close to call,” a senior official at the Cabinet Office admitted.
This has come as China, one of the largest markets for Japanese exports, marked its slowest rate of growth in nearly three decades amid a trade war with the United States. Growth in the eurozone has also slowed and faces even more risks as the U.K. attempts to negotiate an exit from the bloc.
Yoshimasa Maruyama, chief market economist at SMBC Nikko Securities Inc., says he believes that Japan is still in a growth phase. But he expects the global economy to lose steam in late 2019 and that Japan will be dragged down with it.
“If the situation deteriorates more than expected, the government may decide to announce more fiscal stimulus” on top of the ¥2 trillion package already included in the draft budget for the year beginning in April, he said.
A recession would also put pressure on Abe to postpone the consumption tax hike scheduled for Oct. 1.
In 2012, the then-ruling Democratic Party of Japan agreed with the LDP and Komeito to raise the value-added tax in two stages from 5 percent to 10 percent. Abe implemented the first increase to 8 percent in April 2014, but the move caused private consumption to plummet and drained momentum for the Bank of Japan’s 2 percent target for inflation.
Loath to repeat the mistake, Abe has postponed the second increase twice. And while he has said that only a crisis on the scale of the 2008 collapse of Lehman Brothers and ensuing global financial meltdown would warrant another delay, some analysts say such a move is still on the table.
“It’s clear that this criteria, a Lehman shock-scale situation, can’t be taken at face value,” said Naohiko Baba, chief economist at Goldman Sachs Japan Co.
“The run-up to the Upper House election in July will be key. If economic indicators don’t show a clear rebound, or if public sentiment toward the tax hike sours significantly, it could become a huge liability for the Abe government heading into the polls,” he said.
Postponing the tax hike a third time holds its own risks. It would deprive the government of precious revenue as a rapidly aging population causes spending on social security such as pensions and health care to snowball. That would dash any hopes of improving Japan’s battered fiscal health, the worst among advanced economies.
The tax hike is also supposed to provide the funding for free preschool and higher education, one of the campaign promises that won Abe the 2017 Lower House election.
“Depending on how things go, the Abe government could be faced with a difficult decision,” Baba said.