If you’ve been reading MoneyWeek for any length of time, you are probably bored of hearing about Japan.
We’ve been bullish on it for years for the simple reason that its markets are cheap. But the problem with cheap markets is that they can stay cheap for a long, long time. To move they need a trigger.
And there hasn’t been one. There’s been a bit of talk about monetary easing and the odd burst of market optimism. But nothing to get patient readers particularly excited.
Good news then that the market is beginning to think that there is now. The average institutional investor is no longer claiming to be ‘underweight’ Japan. Retail investors in Japan are trading again.
And of course the market (as measured by the Nikkei 225) is up 20.7% in the last three months.
So what’s changed? And more importantly, will it continue?
Japan’s new boss has all the support he needs
The first thing to note is that bad as things have been for Japan for the last few decades, they are worse now. Japan, as Merrill Lynch strategist Michael Hartnett points out, has recently passed a few “humiliating landmark moments.”
It has had 11 finance ministers in seven years. Its government debt levels have passed one quadrillion yen. Sales of adult nappies have now passed those for babies’. (As one person recently back from Japan pointed out to me with reference to the ageing population this week, “everywhere you go, someone is asleep”.)
Japanese bank stocks are at their lowest valuations for 30 years. And of course, the country has recently seen a “violent shift from trade surplus to trade deficit.” Twenty years on from the beginning of the long crisis, and it is time for a genuinely “unprecedented policy response.”
You will say that this national humiliation is hardly new. That one could have made a similar list at any point in the last ten years or so. So what’s the difference this time?
Enter Shinzo Abe, Japan’s recently elected prime minister and a man with a rare reflationary zeal. Abe has more power than recent Japanese leaders – the cabinet is stuffed with his supporters and the new governor of the Bank of Japan will be one of his too (he is to be appointed in a few months). Given the level of support he has, there is also good reason to think that the upcoming upper house elections will go his way too.
He has already pushed through a 2% inflation target (up from 1%) and a promise of QE infinity (unlimited money printing). In the process, he has managed to talk the yen down significantly. Only last year, one dollar bought you less than ¥80, now it gets you ¥90.
There is a chance that all this is temporary of course. But there is one more vital difference this time around – and one that might not be getting enough attention. Geopolitics.
Why Japan suddenly matters again
You’ll be hearing a lot of talk about the currency wars at the moment. Everyone wants a weak currency, so everyone wants to stop everyone else having a weak currency.
But one voice has been fairly silent in the face of Japan’s new ‘collapse the yen’ policy – that of the US.
Why? There is a growing view that the US is prepared to be supportive of just about anything that gets Japan back on its feet.
The sabre rattling between China and Japan over the Senkaku / Diaoyu islands has been a reminder that China’s economic rise doesn’t just give it financial power, it gives it political power. The Americans need a counter balance in the area and a bankrupt Japan wouldn’t make for a very good one.
Until the Soviet Union collapsed, Japan was the “nucleus of the US global strategy in political, military and economic terms”, says Tokyo-based analyst Ryoji Musha. For the next 20 years, the weakness of Japan (and the strength of the yen) was neither here nor there for the US.
Now it is again. The US, says Musha, won’t want the Japanese to “lose faith in capitalism or a market based economy.” Instead they need it strong and onside to help it exert pressure on China as and when required.
And that in turn might well mean that the era of the strong yen, and hence the era of Japanese deflation and crisis, might be at the beginning of its end.
One last thing to note. Back in 1931, Japan’s finance minister Korekiyo Takahashi rescued Japan (temporarily) from the Great Depression. He did it with a massive reflation programme that involved him taking Japan off the gold standard, putting in place an early form of quantitative easing (QE – under which the Bank of Japan underwrote government bonds) and halving interest rates.
The equity market rose 153% between late 1932 and early 1934. More on this here: Japanese horror stories.
• This article is taken from the free investment email Money Morning. Sign up to Money Morning here .
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