Investors are asking the wrong question about the Bank of Japan. It’s not whether Haruhiko Kuroda will ease further this year (he will), but will it do any good?
There are many reasons for Gov. Kuroda to act, perhaps as soon as Friday: persistent deflation, negligible global growth, jittery stock investors, antsy politicians who need placating. Here’s why he shouldn’t: Japan’s weak-yen experiment is backfiring.
This contrarian take on the Bank of Japan’s two-day meeting that began on Thursday would seem to ignore the good that’s come from the yen’s 30 percent drop since 2012. That includes record corporate profits, a tourism boom and, until recently, a buoyant stock market. But these benefits aren’t enriching a broad spectrum of Japanese. Companies aren’t sharing the spoils with workers, while inflation expectations remain, in Kuroda’s words, “somewhat weak.”
Not a great report card for history’s most aggressive monetary-policy experiment. And yet corporate Japan, the politicians who enable it and investors at large want more of the same. Here’s why it won’t work: Executives have quietly mastered the art of producing profit growth from stagnant sales by slashing costs, much to the BOJ’s detriment.
Such cost-cutting campaigns are de rigueur in the West, but they’re complicating Prime Minister Shinzo Abe’s ploy to revive Japan via the corporate sector. The simplest description of Abenomics is this: In exchange for the weak yen, Tokyo expects executives to raise wages and invest to boost gross domestic product and end deflation. Forget talk about structural reform and deregulation, Abenomics is an old-school devalue-your-way to riches scheme.
But executives are calling Abe’s bluff. Since Abe’s key reforms haven’t materialized, CEOs are cutting costs, particularly wages, instead of deploying profits. Margins at Japan’s 5,000 biggest firms are at their highest level since 1973, says Richard Katz, publisher of The Oriental Economist. On the one hand, companies are squeezing suppliers — mostly small and midsize ones — forcing them in turn to also cut labor costs. On the other, these savings reduce the need to invest in new plants, equipment or staff.
The tactic of choice is making full-time workers part-timers. Executives can pay them less, offer fewer benefits and training and easily scrap work contracts — a fate disproportionately befalling women. That’s why today’s BOJ largess “boosts corporate profits, but doesn’t lead to better growth for the economy as a whole,” Katz says. “One person’s costs is another person’s revenue.”
Japan Inc.’s new profit model risks hollowing out the real economy Abe hoped to revive. Abe’s big mistake, of course, was betting it all on BOJ easing. If Abe had implemented supply-side changes like loosening labor markets, cutting regulations and supporting entrepreneurship, living standards might not be sliding with the yen. This leaves Kuroda with quite a dilemma this week: disappoint markets with no additional stimulus and take the blame for slowing growth or step further down a road that’s leading the economy astray in the long run.
Abe must act fast to change the incentive structure. At the moment, he’s trying to reinvigorate a corporate system that existed 30 years ago, not in 2016. Back then, Japan could use the yen to manage the competitive forces shaking up industry. Globalization slowly but surely chipped away at Tokyo’s ability to control the game. All Abenomics is doing is filling corporate coffers with cash that executives lack the confidence to deploy.
The weak yen, simply put, is deadening the animal spirits Abe hoped to conjure. Take Sony, which 15 years on still hasn’t come out with plausible answer to Apple’s iPod, never mind the iPhone or iPad. And yet Sony is rolling in profits. Not because it shocked the world with a new game-changing gadget, but exchange rates. There’s now less urgency for CEO Kazuo Hirai to rediscover Sony’s creative mojo. Similar complacency risks abound (Sharp, anyone?) at a time when Japan Inc. needs to increase productivity and innovation.
In retrospect, Japan might be doing better if Abe stuck with a stronger yen. It would’ve forced executives to take a page from German peers who use unfavorable exchange rates as a catalyst to restructure. It also would’ve given acquisitive Japanese CEOs greater global purchasing power to tap faster-growing markets abroad.
Still, the odds favor Kuroda adding fresh liquidity this week, partly thanks to China’s troubles. In Davos last weekend, he turned heads by suggesting China impose capital controls to defend the yuan. For years now, the world called on Beijing to give markets a bigger say in the currency’s value. Now, though, a weaker yuan is boosting the yen. “The BOJ,” says Martin Malone of brokerage Mint Partners, “needs to counter China’s most recent policy easing by a further expansion in the monetary base.”
But another BOJ blast won’t change corporate mindsets in Abe’s direction. All signs are that wage negotiations this year between executives and unions will be disappointing. “Large employers,” says Tobias Harris of Teneo Intelligence, “are significantly more pessimistic heading into wage negotiations than in 2015.” And last year’s wage gains, let’s face it, were pretty forgettable.
That has Abe calling for “equal pay for equal work” as companies race to shift as many work contracts as possible to part-time status. But Abe’s reliance on monetary policy over reform is the very thing driving executives to pay a little as possible. The irony is that Abenomics did spark a change in corporate mindsets — just one at cross-purposes with its goal. So sure, the BOJ can ease again — and it probably will. But what will it really change?
Based in Tokyo, William Pesek is executive editor of Barron’s Asia. www.barronsasia.com