Tuesday, December 18, 2012

Could Japan Provide The Next Catalyst for Global Equities?

Japan overwhelmingly elected Shinzo Abe to be their new prime minister last weekend.

Japan PM Abe (courtesy NY Times)
This will make the second time as Japan's PM for Abe.  His first foray lasted just two years, and was not considered a success by most.  He resigned for health reasons in 2007, but now apparently has healed sufficiently to be able to regain the top post.

In the campaign, Abe vowed to put maximum pressure on the Bank of Japan (BOJ) to loosen the monetary reigns to try to revive Japan's moribund economy.

Like the Fed, the BOJ is supposed to be free from political pressures, and act in a manner that is consistent with maintaining a sound banking system.  Now, Prime Minister Abe is about to turn up the political heat in a big way.

Japan is in a deflationary funk. Abe wants the Bank to target a 2% inflation target by printing vast sums of money.  In addition, Abe will once again increase spending on public infrastructure to try to restart the domestic economy.

Many Japanese observers are skeptical that Abe's plans will work. They note that most of his prescriptions have been in place for years, with only modest effect.

Still, the Japanese electorate was sufficiently fed up with its stagnant economy that it was willing to return to power a man who only years ago left in disrepute.

Ambrose Evans-Pritchard, one of my favorite columnists who writes for the London Telegraph, thinks that Japan's attempts to rekindle economic growth will be important for the global economy.  He compares Japan's plans to the aggressive quantitative easing efforts done by Switzerland and the United States.

If successful, the Japanese yen will weaken, allowing its manufacturers to become more competitive. At the same time, ultraloose monetary policy targeting higher inflation rates could cause the yields on Japanese Government Bonds (JGBs) to rise significantly for the first time in decades.  Higher interest rates could have a disastrous effect on its government deficits.

Here's what he wrote yesterday:

Mr Abe plans to empower an economic council to "spearhead" a shift in fiscal and monetary strategy, eviscerating the central bank’s independence. 

The council is to set a 3pc growth target for nominal GDP, embracing a theory pushed by a small band of "market monetarists" around the world. "This is a big deal. There has been no nominal GDP growth in Japan for 15 years," said {Japan analyst Lars} Christensen... 

The {Abe's party}LDP plans what some have dubbed a "currency warfare fund" to weaken the yen with a blitz of foreign bond purchases, copying Switzerland’s success in capping the franc. 

The effect of Switzerland’s unlimited bond purchases has been to finance most of the eurozone’s budget deficits for the last year with printed money. If Japan tries to do this - with a vastly bigger economy - it would amount a blast of quantitative easing for the world. 


Quantitative easing in the country has provided one of the main sparks to the rise in stocks that has occurred since 2009.  If Japan - still one of the largest economies in the world - adopts a similar policy stance, this could provide a major spark to equity markets around the world.