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THE INVESTOR
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The main reason why aggressive monetary
easing has not generated stronger wage
growth and inflation is that the BoJ has
had no success in lifting expectations of
future price gains.Households’ five-year
inflation expectations fell to a seven-year
low last quarter and firms expect prices
to rise by just 1% per annum over the
coming five years.
Last September, the BoJ pledged
to keep expanding the monetary
base until inflation had settled
above its 2% target.However,
it is unlikely the bank will be
able to declare victory at all
soon.That isn’t necessarily
a disaster, as the economy
has continued to grow at
a robust pace even as
price pressures have
remained subdued.
While companies paid
down debt when prices
first started falling,
credit growth is now
the strongest it has been
in at least two decades.
But low inflation will
limit the ability of
policymakers to respond
to future downturns and
make it difficult to stabilise
the ratio of public debt to GDP.
The upshot is that monetary
policy will have to remain loose for
JAPAN
Greg Girard/Gallery Stock, Getty Images, Shutterstock. Sources: 1 japanpolicyforum.jp, June 2016; 2 bccjapan.com, March 2017; 3 asia.nikkei.com, December 2016; 4 asia.nikkei.com,
November 2016; 5 doingbusiness.org, May 2017; 6 reuters.com, March 2017
the foreseeable future. In particular, the BoJ
is likely to keep its 10-year yield target
unchanged at 0%. By contrast, the majority
of analysts on the most recent Reuters poll
now expect the BoJ to start tightening
policy by the end of next year
6
.Most
expect it to start by lifting its yield target.
Meanwhile,Capital Economics expects
theUS Federal Reserve to lift rates four times
this year and next:more thanmost anticipate.
We expect 10-yearUS government bond
yields to climb to 3%by the end of this year.
If we’re right, interest rate differentials will
widen in favour of the dollar.Our forecast
for the end of the year is 120 yen to the dollar.
What would this mean for the equity
market? In recent years, Japanese equities
followed changes in the exchange rate of
the yen versus the dollar.Aweaker yen
tends to lift export earnings,which are
mostly invoiced in foreign currency. It also
lifts the yen value of the profits of overseas
subsidiaries,which have grown in
importance. In 2016, the sales of overseas
manufacturing subsidiaries were equivalent
to one-third of domestic sales, and the
figure is higher for the multinationals listed
on Japan’s stock market.
A further weakening of the yen should
provide a tailwind for Japanese equities.
Valuations are a long way from their frothy
bubble-era peaks.At Capital Economics,we
expect that Japanese equities should do
better than US equities,which we expect to
falter this year.
PRICE/EARNINGS RATIOS: US V JAPAN
16
20
24
28
14
2009
18
22
26
30
32
2010 2011 2012 2013 2014 2015 2016 2017
JAPAN
US
P/E RATIO
YEAR
has failed to pick
up is that wage
growth has remained subdued
despite the continued tightening of the
labour market.With productivity growth of
just under 1%,wages would have to rise by
around 3% to reach the Bank of Japan’s
(BoJ) 2% inflation target. In reality, though,
wage growth has remained closer to 0.5%.
Source: Thomson Datastream, Capital Economics