As I wind up, post exam session, for some serious economic analysis it is to an economic landscape which is increasingly looking like a surreal mixture between Kafka and Dali. Having been paying only scant attention to the data stream the last 5 months, I have been adequately awake to note that the incoming barrage of data from the real economy has been absolutely horrendous. And this, incidentally, is not only the case for Japan. Clearly, we will get to the other side since such is our nature, but the amount of bodies we will leave in our wake may turn out to be quite substantial. In my opinion, this is exactly the main challenge which confronts at the present time; to identify the cases where the risk for a serious fallout is largest, and then to act.
One of those places may well be Japan and although she will still be one of the world's largest economies tomorrow and the day after tomorrow the data is still screaming, I think, that Japan is different and that understanding the why and how is crucially important to get the big global picture.
As per usual I shall be taking a bird's eye view of the Japanese economy homing in, when necessary, on the specifics. The topics covered should be well known to regular visitors in the form of output, prices, household demand, corporate capex, the external sector, and then finally what actions taken by policy makers to tackle the issue.
Leafing through my articles here at Alpha.Sources the last time I had a look at Japan I simply noted that the recession was now, well and truly, here. This view was not completely rooted in the consensus although my favorite Japan watchers (MS' Sato and Ken Worsley) had already been delivering the same basic message through their writings. As it turned out, the official recession call came just in the knick of time before the house of cards finally collapsed. Thus, and although this is old news at this point, why don't we have a look at a simple chart of Japanese quarterly output since Q1 2006.
Within the alphabet soup of various definitions of recession Japan conforms to the conventional adage of two consecutive quarters of negative growth (a technical recession in the jargon). In Q2 and Q3 2008 Japan's economy contracted 1% and 0.5% respectively. Furthermore, if we scrutinize the smoother y-o-y figures of real GDP we observe the interesting fact that, on this measure, Japan's economy has been steadily slowing since the beginning of 2007. This is interesting in the context of just what effect the current travails of financial markets have had on Japan in the context of a cycle which so obviously were about to turn in any case. Turning to the immediate news in off the wire the situation in Japan apparently went from bad to worse and then onto horrendous in Q4 2008. The latest data points from December are thus quite staggering as will also be detailed below. Unemployment up from 3.9 to 4.4 %, consumption down 4.6% and most importantly (perhaps) factory output slipped a handsome 9.6% in December which confirms the worst fears in the context of the incoming manufacturing recession.
Let this then be a subtle warning of what comes next.
Consumers are Still Holding Back
As a well known Achilles heal in the Japanese economy the consumer is still mired in a slump which has now, effectively, extended almost a year (1). Consequently, 2008 looks set to become a year where headline household consumption fell in 3 out of 4 months. Breaking these figures down reveal that the retail sector in Japan is struggling. As per usual Ken Worsley provides the ammunition and although convenience store sales were up on the whole year in 2008, the more broad based purchases proxied by supermarket sales and department store sales are almost certain to reflect the general trend. In November 2008 department store sales slid 6.4% which marks, following Ken, the ninth consecutive decline. As for the overall retail sales gauge November marked the third consecutive monthly decline. On a broad measure retail sales registered a drop of 2.7% yoy in December which was the largest monthly drop in four years. Finally, the figure reported by the media in the form of overall household consumption expenditures solidifies the analysis showing a thoroughly negative trend on a monthly basis throughout 2008. As noted above, the latest -4.6% shocker for December solidifies the overall trend.
The fact that the Japanese consumer is not providing a cushion for the deterioration in corporate capex and exports is not surprising. However, it does represent an added issue since we could reasonably ask how long we should expect to observe these perpetually declining figures for domestic consumption? This is a non-trivial question since consumption still represents around 50-60% of the Japanese economy. Thus, one thing is if the consumer is not contributing to growth but quite another is if the domestic economy now spirals down into a black hole regardless of what happens on global markets. Forward looking indicators for consumer sentiment suggests that we are some time away from a pick-up in any sense of the word and while consumption can hardly be a bigger drag on growth than is currently the case, it still constitutes a tough starting basis upon which to stage a "recovery".
Prices, the return of an (un)welcome friend?
One obvious topic bound to come back with a vengeance in the context of the present slowdown is the prospect of a solidification of the deflation which, despite many an odd economist's predictions, Japan has never escaped. Well, if you want to nit pick Japan could still have made it in 2008. Thus, the mean value of the y-o-y monthly increases in the core of core up until November was 0.0% and with today's 0.0% reading for December Japan still has not created one year of domestically induced inflation for a long time.
One thing is sure then, whatever some will have you believe, deflation is still a major preoccupation for Japan and in light of the fact that we are now entering the worst year for the global economy in several decades, I would humbly submit that comments about an escape from deflation best be kept under raps.
Apart from the US style core index' linear walk above and below the 0% mark the graphs above also show how the big inflation panic observed 6 months ago exclusively came from headline pressures and did not, in any sense of the word, produce second round effects in Japan. This is to say that even though the core index spiked significantly in the year from august 07 to august 08 it did not pull up the core-of-core to any significant degree. My initial statistical analyses (more to follow) suggest that the relationship between the US core and General core index has steadily deteriorated since 1971 and is almost non-existing at this point. Or to put it briefly; we have indeed had cost push inflation but not demand pull.(2)It is interesting in this regard to watch how, as headline inflation abates, the inflation indices are nicely coming together. In connection with the heated debate of second round effects and the scare from energy push inflation I feel vindicated from the current message told by the data in both Europe and Japan.
This does not mean that inflation may not come back in the form of a pressure on commodities and the barbarous relic(s) as the global central banks flood the system with fiat money. This would then be a scenario of stagflation which it looked as if we would tussle with half a year ago. Yet, at this point in time I think risks are still more heavily tilted towards deflation as the main global macro concern.
