China's "shadow banking" problem requires continued monitoring(Jul 2014)

◆Japan’s Economy Heads Toward Smooth Recovery: Japan’s economy is moving into a smooth recovery trend. We now forecast real GDP growth of +1.1% in comparison with the previous year for FY14 and +1.5% in comparison with the previous year for FY15. (See Japan’s Economic Outlook No. 181 Update (Summary), (June 23, 2014), by Mitsumaru Kumagai et al.). Japan’s economy declined temporarily in the Apr-Jun 2014 period due to the effects of the increase in consumption tax, but is expected to get back on track and head toward recovery during the Jul-Sep period. Japan’s economy is expected to firm up in the near future due to the following positive factors: (1) The negative factors associated with the increase in consumption tax are believed to be limited, and (2) Firming up of exports due to US economic recovery.

◆Four Risk Factors Facing Japan’s Economy: Risks that will need to be kept in mind regarding the Japanese economy are: (1) turbulence in emerging economies, (2) China’s shadow banking problem, (3) a reigniting of the European sovereign debt crisis, and (4) a surge in crude oil prices stemming from geopolitical risk. It is worth noting that the first is closely related to the second and third. Of these four risks, it is worth underscoring that the first and the second are of crucial importance. Looking at the world economic cycle, we see that in the past, advanced economies led by the US drove emerging economies. However, a decoupling is currently occurring—advanced economies are performing well but emerging economies are stagnating. We believe that this decoupling is occurring for three reasons: (1) the dwindling amount of loans from European financial institutions to emerging economies in light of the European debt crisis, (2) the sluggishness of the Chinese economy, and (3) concerns that money will be taken out of emerging economies based on worries that the FRB will adopt a hasty exit from quantitative easing. We anticipate that a further deterioration of emerging economies will be avoided as the US economy continues to expand. Nevertheless, we think the state and the future direction of the Chinese economy will continue to require close monitoring.