The Japanese Economy in 2019: Verging on the Longest Expansion Since World War II

Business Conditions End Their Slide

According to the Bank of Japan’s December Tankan (Short-Term Economic Survey of Enterprises), large manufacturers’ overall assessment of business conditions was unchanged from September at +19, ending four quarters of decline. A succession of earthquakes and typhoons over the summer worsened business confidence, but that uneasiness now appears to have ended. Current business conditions are surprisingly firm despite concerns about the impact of a trade war between the United States and China. However, the confidence index is expected to worsen 4 points to +15 in the next quarter, highlighting the persistence of uncertainties about the US-China trade conflict.

General business conditions portrayed by the index for all enterprises and industries was +16, up 1 point from the September survey. Companies with a favorable view of the economy have exceeded those with an unfavorable view for five and a half years. The employment conditions index and capital spending plans are both firm, suggesting that the economy will continue to grow at a moderate pace.

Prices Rise Slower Than BOJ’s Inflation Target

The Kanji of the Year for 2018 was sai, or misfortune, a choice that points to the negative impact the summer’s natural disasters had on Japan’s economy. While the gross domestic product declined an annualized 2.5% in real terms in the July–September quarter, the December Tankan bolsters the prospect that GDP will increase in the October–December quarter.

The consensus forecast for real GDP growth in the November ESP Forecast (averaged from the predictions of 38 economists polled by the Japan Center for Economic Research) was 0.73% for fiscal year 2019 (ending March 31, 2020). The average for the eight highest forecasts was 0.98% and that for the eight lowest was 0.48%. The consensus view is that the economy will grow in fiscal 2019, although at a gradual pace. The average forecast for inflation was a 0.89% increase in consumer prices in fiscal 2019 (all items excluding fresh foods and not including the effect of a higher consumption tax). Prices may rise even more slowly than this forecast depending on how much mobile phone rates are reduced. Such an outlook is far from the BOJ’s inflation target of 2%.

The Longest Expansion Since World War II

In its Indexes of Business Conditions, the government has pronounced the economy “improving” (its highest rating) for 23 straight months, from October 2016 to August 2018. This reading, however, was revised downward to “weakening” for September and October. The principal contributor to the downward revision was the succession of earthquakes, torrential rains, and typhoons during the summer of 2018.

Even so, the economy is expected to avoid slipping into recession. An examination of the inventory cycle shows that inventories began increasing again in October following an accumulation phase in the July–September quarter brought on by a large typhoon in September disrupting the loading and unloading of ships. Barring a significant shock of some form, the economy should avoid stalling in the months ahead.

The economy has continued to expand after surpassing the 57-month Izanagi boom (November 1965 to July 1970) in September 2017, which until then was the second longest expansion of the postwar period. It is now highly probable that the current expansion will mark its 74th month in January 2019, overtaking the 73-month Izanami boom (February 2002 to February 2008), the longest postwar expansion.

World Economy Firm Despite Concerns of US-China Trade War

In the October 2018 special edition of the ESP Forecast, economists were asked to choose up to three major risk factors with the potential to blunt Japan’s economic growth over the next 6 to 12 months. The top two responses were “increased protectionism” (28 respondents) and “economic downturn in China” (21), both external factors. Domestic factors have never received double-digit responses (including open-ended responses) since this question was first included in the survey in June 2017.

Although the outlook for China’s Manufacturing PMI declined against August in a special November survey, most respondents replied “steady” or around 50, indicating that few economists anticipate a downturn for the Chinese economy in 2019.

A power struggle and security concerns seem to be propelling a trade war between the United States and China, which has the potential of significantly undermining the world economy. The likelihood is high, however, that the world economy will continue to grow steadily in 2019. Both the International Monetary Fund and the Organization for Economic Co-operation and Development anticipate firm growth at the global level. In its World Economic Outlook released last October, the IMF predicted global growth of 3.7% for both 2018 and 2019. In a report published in November, the OECD forecasted global growth of 3.7% in 2018 and 3.5% in 2019.

Consumption Tax Hike Will Have Less Impact Than Before

While the acceleration of demand before a consumption tax increase in 2019 will entail a momentary falloff in subsequent demand, the government is expected to implement mitigating measures.

The November ESP Forecast included a composite diffusion index on business conditions expressing the consensus view of economic forecasters. This index is in the high 80s to 90s from January–March 2019 to July–September 2019, which is far above 50, the dividing line between an expanding and contracting economy. The consensus view of forecasters appears to be that the expansion will continue to July–September 2019 and last more than 82 months.

In October–December 2019, which will be affected by a consumption tax increase, the diffusion index momentarily falls to 5.3, then recovers to 48.7 in January–March 2020, and surpasses 50 and reaches 70.8 in April–June 2020. This progression brings into view an economic expansion lasting more than 91 months.

When the consumption tax was raised from 5% to 8% in April 2014, consumption fell sharply, although an economic downturn was avoided. The increase of the consumption tax in 2019 will be by 2 percentage points rather than the 3 points of the previous increase. The government is planning a number of mitigating measures, such as a reduced tax rate for certain purchases and a reward points program. Given these factors, there is only a small chance of the consumption tax hike triggering a recession.

Another point worth noting is that the productive population ratio is currently decreasing at a slower pace than in 2014. This ratio was 62.1% in 2013, which fell by 0.7 percentage points in just one year to 61.3% in 2014. This large decline of the working-age population between the ages of 15 and 64 was the consequence of the baby boomer generation leaving the workforce. The consumption tax being raised by 3 percentage points as large numbers of baby boomers were becoming pensioners is thought to have caused them to cut back their spending beyond expectations from the feeling that the tax hike was an excessive burden.

The productive population ratio is expected to decline 0.3 percentage points from 59.6% to 59.3% between 2018 and 2019. It is reasonable to think that the falloff of consumption will not have as large an effect in 2019 as before.

Inbound Tourism and a New Emperor

The growth of demand associated with inbound tourism looks to recover from the sluggishness of last summer when natural disasters caused tourists to avoid Japan. In the autumn of 2019, the Rugby World Cup will be held in Japan, one of the three major global sporting events. The organizing committee estimates that the event will have an economic effect of ¥437.2 billion. During the 40 days of the World Cup, rugby fans from Europe and around the world will arrive to view rugby matches in 12 cities across Japan. Inbound tourism currently centered on visitors from Asia is expected to diversify and expand. Should this lead to return visits for the 2020 Tokyo Olympic Games, the number of foreign visitors to Japan has the potential of reaching the government target of 40 million.

The accession of a new emperor and the naming of a new era in May 2019 will give people the sense of a fresh start and is certain to have a positive effect on the economy.

In the Economy Watchers Survey, respondents mentioning the naming of a new era in the diffusion index for future economic conditions rose from two respondents in October to six in November. If we create our own “new era diffusion index,” an index that is 50.0 in October, the dividing line between expansion and contraction, rises far above 50 to 70.8 in November. Expectations are clearly increasing that the naming of a new era will have a positive effect on the economy.

Current GDP statistics go back to 1980. If we list January–March periods between 1981 and 2018 with the highest growth over the previous quarter, the years ranking first and second are 1989 when the Heisei era began and the millennial year of 2000. In both years personal consumption and capital spending grew firmly. The effect of commemorative consumption in years marking the changing of eras appears to be large.

(Originally published in Japanese. Banner Photo: Traders and others close the last session of the year during a ceremony at the Tokyo Stock Exchange on December 28, 2018. © Jiji.)