Bank of Japan (BoJ) has a real problem. Japan has an astronomical debt burden, ailing exports (hurt by a strong yen), and a population that cannot be persuaded to spend its way out of recession.
October saw the fifth straight month of export declines, down 6.5 per cent on the year. Japan has been hit by a boycott of Japanese products by China – its biggest export market – following a diplomatic dispute over territorial waters. But it has been hit harder by yen strength, pricing Japan out of dollar and euro export markets.
Fitch recently cut the credit ratings of Japanese technology giants Sony and Panasonic to junk. It said that the recovery of both companies rests on aggressive restructuring. The rating agency downgraded Sony and Panasonic three notches and two notches respectively.
But the companies have struggled with a broader issue that has dogged many Japanese blue chips. They are cash rich but are faced with low demand from domestic consumers, who have a conservative tendency to save in the bad times. The yen’s strength also makes Japanese products unattractive abroad.
The scale of the problem has caused a split on the board of the BoJ. Though Japan’s central bank is technically independent, its governor and its board of directors are appointed by the government, and the Ministry of Finance maintains control of foreign exchange policy.
Compared with the Swiss National Bank (SNB), Japan has been almost calamitous in its handling of currency interventions. When the SNB announced in September last year that it would intervene to defend a currency floor under the euro-Swiss franc rate, the move was largely successful. It came after the Swiss struggled with an overheating currency, much like the yen. But unlike the shadowy BoJ, the SNB clearly communicated its intentions and underlined the level to which it was prepared to defend its measures. It is unlikely that the Japanese will change their policies.
Shinzo Abe, the leader of the opposition Liberal Democratic Party and frontrunner in the upcoming December elections, called on the central bank to adopt negative interest rates and other stringent measures.
Minutes from the central bank’s latest meeting showed that there is also pressure to strengthen Japan’s commitment to ultra-loose monetary policy. Dissent came primarily from Takehiro Sato, who has been pushing for greater monetary activism when current BoJ governor Masaaki Shirakawa’s term ends in April of next year.
Sato has been strong in voicing his views on measures to keep the strengthening yen in check, including linking central bank policy to consumer prices. And Abe has also expressed commitment to the idea of a 2 per cent inflation target to combat deflation worries.
But as the world’s most indebted nation, Japan cannot afford to make any monetary policy mistakes. The yield on 10-year Japanese government bonds is only 1 per cent, but interest on its debts is expected to surpass ¥22.3 trillion (£159bn) for the fiscal year. If the yield were to rise to 2 per cent, the interest expense on that debt would outstrip the total expected Japanese tax revenue of ¥42.3 trillion.
If Japanese consumers do not start spending, and international markets continue to be turned off by yen strength, traders should look to more Japanese giants feeling the swing of the ratings agency axe.