The Three Arrows of Abenomics

Japanese Prime Minister Shinzo Abe’s programme for his country’s economic recovery has led to a surge in domestic confidence. His comprehensive programme entails monetary, fiscal and structural policies – he has likened his programme to holding three arrows that taken alone, each can be bent, but taken together none can. Let’s examine just how successful his three arrows can be in facilitating a Japanese recovery.

The Abenomics Theory of Economic Recovery

Monetary policy involves controlling the supply of money, often through changing the key government interest rate in order to promote economic growth and stability, contain inflation, or ensure low unemployment. In the case of Abenomics, the target is to reverse Japan’s chronic deflation problem which has plagued the country for over a decade with a higher real debt burden for Japan’s US$13.64 trillion government debt (2^nd highest worldwide). Hence since the appointment of the new governor of the Bank of Japan, Haruhiko Kuroda, the BoJ have adopted an inflation target of 2%. They plan to achieve this target by doubling the BoJ’s holdings of bonds and stocks over the next two years as well as extending the average maturity of bonds it buys to about seven years from the current three years. Once their purchase programme has been completed, they would have bought an estimated 1.4% of their GDP in assets, which compares with the US Federal Reserve’s buying programme that targeted 0.6% of GDP. Additionally, the BoJ’s buying programme has sent the Japanese Yen to its lowest level in five years against the USD of 99. The weaker JPY has made Japanese goods more competitive and led to a surge in exports that has sent the Nikkei into a 70% upward rally. Yet, the need for three arrows in Abenomics is necessary as exports are only 15% of Japan’s economy, highlighting the need for structural changes to really make Japan’s economy more competitive.

The fiscal side is concerned with the use of government revenue collection from tax and government spending to influence the economy. Here Japan have passed a government budget for 2013 that cuts spending for the first time in 7 years in order to establish fiscal discipline. The government is eliminating tax subsidies to local governments, reducing spending on education, cutting salaries of civil servants, and expunging JPY910 billion in discretionary funds. However this budget does not include Abenomics’ US$116 billion fiscal stimulus package that is also tied to the third arrow of growth. The package seeks to invest in public infrastructure projects and subsidies for companies to invest in new technology and loans for SMEs in order to raise real economic growth by 2% and add 600,000 jobs to the economy. While the spending is supposed to focus on bringing growth through innovation investment, there are worries about possible growth in Japan’s government debt which is twice the size of its economy. There are also concerns about the last failed attempt to use fiscal stimulus in Japan during the late 1990s following the Asian Financial Crisis. Yet I contend that at the time there was a large decrease in the domestic credit supply which made it extremely difficult to successfully restore growth just using increased government spending and that the fiscal stimulus instituted provided a cushion for Japan’s economy, evidenced by unemployment being relatively low around 5.8% in the years after.

Shinzo Abe looking Confident

Structural policies aim to restructure the economy, improve productivity and encourage higher labour force participation. Here is where Abenomics will be most challenged. Japanese culture asserts domination of the male and this is where socio-cultural norms need to be altered to encourage higher female participation in the work force. Abe believes change starts at the top, hence why he is encouraging every major company to have at least one female board member. He is also attempting to increase workers’ wages by encouraging the private sector to do so. Yet here there is the need for the private sector to alter their conventions as there is little that Abe can do apart from set the tone. That said, Japan does well in many areas already. Although Japan has a shrinking labour force, its productivity is high with output per worker growing 3.07% year-on-year compared to the USA where output grew 0.39% year-on-year and Germany where it shrank 0.25%. In addition, Japan has one of the highest commitments to environmentally friendly policies – there is a reason why it’s called the Kyoto Treaty. And Japan has one of the lowest income inequalities, measured by the Gini co-efficient, than other developed countries. Despite the pluses, the biggest challenge is the need to find a solution to mitigate Japan’s population fall. There is a need to encourage families to have more children and to find innovative solutions to solve a burgeoning social welfare spending that has grown 10.5% this year as Japan prepares for 2014 when 25% of their population will be older than 65 (compared to 9.5% in China and 14% in USA) and living longer than ever with average life expectancy at 85 years.

The long-term success of Abenomics will depend on the strength of policies in all three arrows, which is the central tenet of Abenomics. Its success will herald investment opportunities in Japanese companies as a whole as well as trading in the Nikkei stock exchange index. However there are also opportunities to invest in certain areas:

·         Companies that show a shift in strategy towards greater exports and investments overseas;

·         Companies that are investing in new technology;

·         Companies that focus on social entrepreneurship around the elderly, healthcare and old people’s homes.