by Brad Parkes
Japan Theory – What’s Being Missed?
While suffering a bout of insomnia and up late watching TV news and catching up on a little reading I had this thought about Japan…what if everyone is wrong?
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The Consensus view is Japan has too much debt and the debt to GDP, which is 250% of GDP and is pointing to default.
This will require inflating the debt away. But the population is aging and according to theories on consumer demand and age, older populations are believed to spend less and work less. The Japanese central bank faces a significant demographic headwind with the aging population.
In addition to the aging issue the Japanese population is shrinking as the reproduction rate is below the replacement rate. Some estimates have the population halving by 2100.
Jeff Usher at Japan-Insider describes the consensus view quite well:
The number of births in Japan topped 2.6 million in 1947 and peaked in 1949 at 2,696,638. There were more than 2 million births annually through 1952 and a total of 14.5 million births between 1947 and 1952. All of those people started to retire in 2012. People born in 1952 will retire this year.
Between 1953 and 1960, another 13.5 million people were born in Japan. That means another 13.5 million retirees between 2018 and 2025.
To put this into perspective, between 2012 and 2017, about 2% of the total population hit retirement age every year. Between 2012 and 2017, 11.5% of the total population became old enough to retire. In the thirteen years between 2012 and 2025, 22.2% of Japan’s total population will have reached retirement age.
As we all know, retiring from full-time work means a sharp reduction in income for most people. That is why we save – or should be saving – for retirement. Having 22.2% of your total population retiring in a relatively short period of time is a big hit to Japan’s aggregate income – offsetting higher wages for those people still working.
Second, Japan’s post-retirement employment practices combined with seniority based pay make the loss of income even worse than it might be otherwise.
Legally, companies are required to allow anyone who wishes to continue working to do so until at least age 70. But the law does not require companies to keep older workers on as full-time employees.
Typically, what happens is that, when an employee retires, he receives a lump-sum cash payment based on years of service and other factors. The lump-sum payment is a buyout of the employee’s full-time status by his employer. By accepting the payout, the retiree agrees that he is no longer a full-time employee, and the company is relieved of its obligation to pay the retiree full-time wages and benefits.
In most cases, workers who retire as full-time employees at age 65 will continue to work for the same company as a contract employee. What this means is that a worker can complete his last day as a full-time employee on Monday and return to work as a contract worker on Tuesday. But, as a contract worker, his compensation will be cut substantially – 45% to 55% is not uncommon – even though he is doing the same job for the same number of hours on Tuesday as he did on Monday.
Looking at Japan’s working population, the number of expensive, older, full-time workers has fallen by 1.05 million since 2011, when baby boomers began to retire.
The number of post-retirement and young workers – who are paid the least – has increased by 2.86 million. With so many people facing pay cuts of 50% or more, is it any wonder that income and spending for the total economy is falling?
This sounds ugly! It appears that the demographic situation has to lead to the economy shrinking and so the Yen and NIKKEI will depreciate. Japan is stuck in deflation and the Central Bank is buying ETFs and stocks to prop the market up. To use John Mauldin’s parlance, Japan is a bug looking for a windshield and that the only investment consideration is to short Japanese bonds, stocks and the Yen.
But what if Japan‘s demographics are about to turn it into the world’s low cost producer causing the Yen and the NIKKEI to soar?
Two of the biggest stories in the media, not related to Trump or North Korea, is how AI and the transition in the 4th industrial revolution will lead to a large loss in the number of jobs and to deal with the mass unemployment the government needs to institute a Universal Basic Income to compensate the population for the loss of income.
The loss of occupational opportunities has already lead to a backlash against globalisation, trade deals and given rise to populist leaders around the world and this is before AI cannibalizing the remaining positions. One estimate suggests 4 in 10 jobs in America could be gone by 2050.
Where is this going to be beneficial and not create protests? Japan.
Japan could go 100% robotic and displace far fewer workers than other economies. In fact, Japan may not displace many workers at all. Once labour has been reduced the benefits of AI would be realized. Robots don’t take a day off, don’t come in hung over, don’t leave for a kid’s soccer game, don’t require health benefits etc. This would allow Japanese companies to cut costs drastically and the Yen would become less of a factor in the cost of exports. In fact, a stronger Yen would be beneficial to importing capital as labour becomes scarce further helping to lower production costs. As capital rushes to invest in the low cost producer the Yen would strengthen and not decline as predicted.
This scenario would have the Japanese economy and government spending trending in the direction of strength, while the rest of the OECD are forced to pursue policies of Basic Income to stem unrest and demographic related depression. This could mean that Japan’s Debt/GDP is peaking this decade, while other nations are about to be forced to increase Debt/GDP.
China is trying to become a consumption society. Japan is on its doorstep. Older people and nations tend to be less aggressive and China would view her as less of a threat and this trade takes off. Japan also seems set to continue with the Trans-Pacific Partnership and a free trade agreement with the EU. Japan would have trade agreements with the world as they become the low cost producer.
If the NIKKEI were to retest the late 80s highs it would double from here.
What if Japan‘s is going to prove to be the most resilient and not the weakest economy? It has been suggested the crowd gets the story wrong at turning points, with consensus firmly on one side after two decades of declines, I think it is worth wondering if this is a turning point.
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This article was adapted from a post at Economisms 14 August 2017.
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