A bit of history…
Japan had enjoyed a tremendous economic boom in the 1980s which came to an end in 1989, with the Japanese CB sharply raising interest rates and bursting the real estate and stock market bubble, thus marking the start of ‘The Lost Decade’. In response to the subsequent recession, Japan initiated a public works programme, among other measures, which saw economic growth rise to an average of 1.3% from 1992 to 1997. When austerity measures were introduced in 1998, economic growth fell to -2.1% (1998) and -0.1% (1999). Japan then tried its hand at Quantitative Easing in 2001 ( with interest rates already near 0%), increasing the balance sheet of the central bank from 5 trillion Yen to 35 trillion Yen over a 4-year period, but with little effect on deflation and economic growth. With the financial crisis of 2008 came economic growth of -1.2% in 2008 and -6.3% in 2009. Growth returned to ~1% in the following years, but this time around Japan was joined by the rest of the developed world.
Abenomics and its immediate effects
Enter Abenomics. With $600 Billion to $700 Billion pumped into the economy annually, Japan’s economy is now growing faster than any of the G-7, with GDP growth in the first 3 months of 2013 at 4.1% annualized. The Tokyo stock market has gained 40% this year and the inflation target is set at 2% in 2 years time.
However, aggressive monetary policy in Japan will have ripple effects in its trade partners, as the Yen is devalued, imports are reduced and exports increased. There remains the possibility of small-scale currency wars, or diplomatic scuffles at the least. The actions taken in response to the Yen devaluation by Japanese trade partners will be instructive in determining the overall effect of Abenomics on the Japanese trade balance.
It is important to keep in mind the broader narrative of a resurgent Japanese nationalism when talking about trade wars and currency devaluation. Prime Minister Abe has also been signalling increased defence spending, changes to the constitution -which is seen as a Western handover- and increased aggressiveness in territorial disputes with China. Japan has been obsessive historically about its position in the comity of nations. The economic malaise of the past couple of decades has been a heavy weight on the Japanese national consciousness, particular with a dynamic Chinese economy at its border. Japan needed to make aggressive moves, if not for the sake of the economy, then for assuaging public feelings of a permanent Japanese demise. However, the broader nationalistic push leaves less room for accommodating foreign concerns regarding Japanese economic policy and makes it less likely that Yen devaluation will be (relatively) quietly accepted by Japanese trading partners, particularly in Asia.
Overall, I’m pretty excited to see how Abenomics unfolds in the coming years. Its results should be instructive to central banks and governments worldwide.