Exploring a Recovery Scenario: How should Chinese and world economies be understood?(No. 175 Update)

Japan to see real GDP growth of +1.0% in FY12 and +1.1% in FY13, nominal GDP growth of +0.3% and +0.8%

  • Mitsumaru Kumagai
  • Masahiko Hashimoto
  • Tsutomu Saito
  • Shotaro Kugo


Economic outlook revised upward: In light of the second preliminary Jul-Sep (3Q) 2012 GDP report (Cabinet Office), we have revised our economic growth outlook upward. We now forecast real GDP growth of +1.0% y/y for FY12 (previous forecast: +0.7%) and +1.1% for FY13 (+0.9%). Factoring in the annual revision of FY11 GDP, released along with the second preliminary 3Q 2012 GDP report, we have revised our outlook for public works spending substantially upward.

What will prompt economic recovery in Japan?: With the worsening of foreign economies, it is highly probable that Japan’s economy peaked in March 2012 and has slipped into recession. In our current outlook, we examine past recoveries of the Japanese economy to elucidate conditions for a future recovery. A review of past periods when Japan’s economy recovered reveals that since the 1990s the driving force of recoveries has clearly shifted from fiscal and monetary measures to exports. In the current downturn, it is highly probable that the growth of exports, such as through the recovery of foreign economies, will trigger the bottoming out of Japan’s economy. Despite the existence of downside risks, as our main scenario we believe that Japan’s economy will follow a path of gradual recovery in 2013 and beyond, supported by three factors: (1) pickup of the US and Chinese economies, (2) reconstruction demand related to the Great East Japan Earthquake, and (3) further monetary easing by the Bank of Japan (BOJ).

How should the future direction of the world economy be understood?: The key to anticipating the direction of the world economy is the degree to which sluggish domestic demand in Europe, the US, and other advanced economies will be offset by the policy responses of emerging economies. We therefore undertook a quantitative simulation of the world economy with (1) domestic demand in advanced economies and (2) the policy responses of emerging economies serving as exogenous variables. Our simulation indicates that emerging economies aggressively implementing fiscal and monetary measures has the potential of offsetting to some degree sluggish domestic demand in advanced economies. However, should multiple risk factors materialize at the same time, such as further deepening of the European sovereign debt crisis and the US fiscal cliff, the policy responses of emerging economies alone would not be sufficient to support the world economy.

Will China’s economy face a hard landing?: We also simulated the effect that worsening relations between Japan and China would have on Japan’s economy. Worsening relations between Japan and China are estimated to place downward pressure of about 0.1% to 0.4% on Japan’s GDP for FY12 and FY13 combined. We anticipate that effects of fiscal and monetary measures in China will enable the Chinese economy to gradually improve for the time being. In the medium to long term, however, there is a risk that China will face the massive adjustment of capital stock. The possibility should be entertained of the potential growth rate of China’s economy slowing significantly to the 5% level toward 2030.

Risks facing Japan’s economy: Risks that will need to be borne in mind for Japan’s economy are: (1) any deepening of the European sovereign debt crisis, (2) worsening of Japan-China relations, (3) the US fiscal cliff, (4) a surge in crude oil prices stemming from geopolitical risk, and (5) further appreciation of the yen.

Policy responses required of the government and BOJ: The policy authorities will need to firmly pursue economic policies to restore the economy centering on four points: (1) there should be consistent policies based on a firm vision (national vision and philosophy) of the top leaders, (2) instead of focusing only on domestic demand and the demand side, economic policies should be implemented that are well balanced and that embrace foreign demand and the supply side, (3) government finances should be rebuilt by raising the consumption tax and reducing expenditures centering on social security costs, and (4) the government and the BOJ should work together more closely. Regarding the last, based on an analysis using the Granger causality test, a weaker yen and higher stock prices ensuing from further monetary easing by the BOJ would be effective in ending deflation.

【Our assumptions】
◆Public works spending will grow +13.5% in FY12, and -1.2% in FY13; the consumption tax rate will be increased in April 2014
◆Average exchange rate of Y79.7/$ in FY12 and Y80.0/$ in FY13
◆US real GDP growth of +2.2% in CY12 and +1.8% in CY13

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