Can a Worldwide Recession Be Avoided? The Effects of (1) Negative Interest, (2) Consumption Tax Increase, and (3) The Bursting of China's Economic Bubble(No.188)

◆Downside risk grows for the Japanese economy due to external factors: In light of the 1^st preliminary Oct-Dec 2015 GDP release (Cabinet Office) we have revised our economic growth outlook. We now forecast real GDP growth of +0.7% in comparison with the previous year for FY15 (+1.0% in the previous forecast), +0.9% in comparison with the previous year for FY16 (+1.5% in the previous forecast), and -0.1% in comparison with the previous year for FY17. Japan’s economy has remained in a lull, but we expect it to move toward a gradual recovery due to the following domestic factors: (1) Inventory adjustment is progressing, (2) The price of crude oil remains low, (3) Real wages are on the increase, and (4) The government’s supplementary budget has taken shape. However, caution is needed regarding downside risk in the overseas economy, especially that of China.

◆How to make sense of the BOJ’s introduction of a negative interest rate: The EU and Switzerland lead Japan in the introduction of a negative interest rate, but it is still difficult to say whether doing so has had a positive effect on the real economy. To some extent there has been an impact on the financial markets, with stock price highs producing an asset effect and currency depreciation bringing growth in exports, which is considered to have had an indirect effect on pushing up the real economy. However, after the introduction of a negative interest rate in Japan, uncertainty began to grow in regard to the future of the world economy, and did so at just the wrong time. Stock prices have not gone up, nor has yen depreciation taken hold. At this point it would be difficult to hope for an indirect effect on pushing up the real economy arising from the financial markets. On the other hand, DIR calculations suggest that falling interest rates will be beneficial to the private sector, including financial institutions, corporations, and households. Financial institutions are expected to see growth in their gains on sale of government bonds, while both corporations and households will experience the positive effects of lower lending rates and lower interest on housing loans.

◆Can a Worldwide Recession be Avoided?: In taking a bird’s-eye view of the current situation of the world economy in light of the long-term business cycle, the roots of the sense of stagnation in the worldwide economy can be found in fiscal and monetary restraint policies of the advanced nations despite the fact that at the time these policies were initiated, private sector demand was gradually recovering in those countries. The key to stopping the declines in the world economy and financial markets is international policy coordination between Japan, the advanced nations and China, which now brings the upcoming G7 summit in Japan into focus. With the economies of the emerging nations and resource-rich countries in a continuing slowdown, the world must leave behind its dependence on the emerging nations to drive economic growth, and instead, the advanced nations need to step up to the plate and take up the role of leading world economic growth. Meanwhile, though the advanced nations are left with limited room to move in the area of monetary policy, there is still some leeway for aggressive fiscal policy actions, while China should initiate practical means of avoiding further depreciation of the renminbi by adopting capital regulations.

◆Sorting out the issues in moving towards an increase in consumption tax in 2017: In this section we take a look at what the issues are in moving towards another consumption tax hike in 2017. The sluggish recovery of consumption of durable goods after the increase in consumption tax in 2014 was influenced by the phenomenon of spiking demand in advance of the tax hike, which then fizzled out by the time the tax hike took place. This was thought to be due to past economic policies. Moreover, the weak outlook for income is thought to have had a major influence on consumption of services, especially in the area of non-essential personal services. Considering the situation, we calculated the effect of the 2017 consumption tax hike and compared the result with real GDP assuming no tax hike. This would put degree of influence at +0.3% in FY2016 and -0.6% in FY2017. Meanwhile, the effect of underlying support for personal consumption obtained by introducing a reduced tax rate is calculated to be approximately 1.1 tril yen in FY2017.

◆Risk factors facing Japan’s economy – focus on China: Risk factors for the Japanese economy are: (1) The downward swing of China’s economy, (2) Tumult in the economies of emerging nations in response to the US exit strategy, (3) A worldwide decline in stock values due to geopolitical risk, and (4) The worsening of the Eurozone economy. Our outlook for China’s economy is optimistic in the short-term and pessimistic in the mid to long-term. Looking at China’s economic situation in a somewhat reductive way, the fact is that China’s government holds treasury funds totaling between 600 to 800 tril yen with which it is standing up to over 1,000 tril yen in excessive lending and over 400 tril yen in excess capital stock. China is expected to be able to avoid the bottom falling out of its economy for a little while, but in the mid to long-term, there is risk of a massive capital stock adjustment.

◆BOJ’s monetary policy: We expect additional monetary easing measures by the BOJ to be initiated in April 2016 due to fears of an economic downturn.

【Our assumptions】
◆Public works spending is expected to decline by -1.1% in FY15, -2.4% in FY16, and -4.5% in FY17. An additional consumption tax hike is planned for April 2017.
◆Average exchange rate of Y119.5/$ in FY15, Y113.0/$ in FY16, and Y113.0/$ in FY17.
◆US real GDP growth of +2.4% in CY15, +2.3% in CY16, and +2.4% in CY17.