The Return to Japan: Future Prospects for Reshoring

Effects of the weak yen since fall of 2012 become manifest

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April 24, 2015

  • Satoshi Osanai

Summary

◆The tendency in exchange rates towards a weaker yen became increasingly pronounced after the fall of 2012, but for some time this showed no signs of preventing corporations from shifting production overseas. However, during the second half of 2014, a number of corporations announced their intentions of shifting some of their production back to domestic locations. It appears that manufacturers are showing a growing interest in a return to Japan.


◆Historical trends indicate that the rate of overseas capital expenditure and overseas sales tends to expand or contract 2-3 years after a new yen exchange rate tendency (strong yen or weak yen) takes hold. Another factor encouraging manufacturers to shift production facilities back to domestic locations is the narrowing of deviation between the real effective exchange rate and terms of trade (= export price / import price).


◆We performed a regression analysis of the ratio of overseas capital expenditure using the following two explanatory variables: (1) the overseas production ratio, and (2) the real effective exchange rate. According to the results of this estimate, the ratio of overseas capital expenditure fell into a decline beginning in FY2014. It is expected to decline by 3.5%pt between FY2013 and FY2016. A survey of corporations also indicates a decrease in the ratio.


◆Looking at trends in the activities of individual corporations, we see that production of electrical machinery has been shifting to domestic locations. Until recently, the trend was to carry out production in developing nations where costs were low, and then reimport products to Japan. But now we see a reversal of this tendency in which production is brought back to Japan where products are consumed. This is called the local production for local consumption model. In the case of automobiles, the return to domestic production locations is expected to bring an increase in exports to the US, while a certain amount of capital expenditure to increase capacity is also expected.


◆Looking now at overseas economies we see that the decline in the value added ratio and the ratio of employees in the manufacturing industry is not unique to Japan. This tendency is in fact shared by the world’s leading industrialized nations. In the case of the United States, the shale revolution in gas and oil has brought on a decline in energy prices, and with it an increase in manufacturers returning production facilities to domestic locations. As a result, the above two ratios have been flat for the US manufacturing industry since around 2010.


◆In regard to the shifting of production facilities overseas by the manufacturing industry, arguments vary as to whether nominal value or real value in adjusting price fluctuation of the effective exchange rate is most important. Corporate management tends to emphasize the former, while economists place more importance on the latter. In cases where there are major differences in salary levels such as is seen in China and Japan, the inflation differential does not have much influence on corporate decisions as to whether or not to shift production overseas. Rather than the real effective exchange rate, corporate management in those countries may prefer to place more importance on the nominal value.

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