The Journal The Authority on Global Business in Japan

Economics | Private Sector

October 2013
RICH JAPAN, LUCKY ABE
The country is now poised for a new cycle of prosperity and wealth creation

By Jesper Koll

Japan stands at a key inflection point. After decades of de-facto stagnation and deflation, growth and inflation are now there on the horizon.

The Japan consensus may still be much too conservative and pessimistic; the majority of analysts still think Prime Minister Shinzo Abe will fail to achieve his goal of 3 percent growth in nominal GDP and 2 percent in real GDP.

Yes, Team Abe deserves some credit for launching a high-profile, all-out attack on deflation. Certainly, top-down public sector leadership is important. But the real reason for my optimism, and view that Japan is now poised for a new cycle of prosperity and wealth creation, comes from the private sector.

After two decades of serious adjustment, Japanese households are now in a good position to deliver a consumer-led up cycle that is poised to surprise in terms of size and length.

To be bullish on consumption, we need two essential forces: rising incomes and positive wealth. Both are pointing in the right direction.

Real estate is key to consumers’ wealth and their feel-good factor. This is because home ownership in Japan is extremely high. Some 73.1 percent of all Japanese households own the home in which they live. In the United States, the figure is about 68 percent, and around 55 percent in the countries of Europe.

Owning your own home is one thing; carrying debt is another.

Over the past 15 years, Japanese consumers have been extremely focused on cleaning up their balance sheets. They have reduced debt by almost ¥50 trillion (about 10 percent of GDP). The net result: 44 percent of all Japanese over the age of 20 are now completely debt free and own the home in which they live. In the United States the comparable rate is slightly less than 20 percent. Thus, Watanabe-san is very rich indeed.

The strength of consumer balance sheets is particularly impressive when put in the context of the massive negative wealth effect forced by the real estate crash.

Between 1990 and 2012, the total value of household sector land and of homes dropped from ¥1.5 quadrillion to just below ¥700 trillion. In absolute terms, the price of real estate fell back to a level last seen in 1985. Thus, one generation of wealth was wiped out. Yet the Japanese carried through, paid off their mortgage debt, and did not rush to sell or be forced to foreclose.

No doubt this paying off of negative wealth was a big factor forcing the feeling of a lost generation or decade. But now the fruits of this hard-borne adjustment are about to come through.

Any sign of real estate prices and home values increasing will generate unprecedented positive wealth effects.

Meanwhile, the income cycle is beginning to turn around in a noticeable way. The driver here is basic economics: demand and supply.

Regarding supply, the number of people in the workforce has started to drop. Japan’s demographic destiny is real. At the same time, the demand for labor is increasing. Part of this is because of the business cycle; the economy is recovering.

The more important factor, however, is structural. It is linked to Japan’s demographics: as society ages, demand for services rises. The older you get, the lower your demand for goods, but the higher your demand for services catering to your individual needs.

Over the past decade, employment in manufacturing has dropped by about 1.6 million people. However, the individual services sector has created 1.3 million jobs, the merchandizing sector—mostly retailers—has created another 900 million jobs, and Japan’s not-for-profit sector created 360 million positions.

Of course, manufacturing pays better than services. The average annual income for industrial workers is ¥5.2 million, while the average service sector pay dropped from ¥4 million to ¥3.2 million over the past decade.

However, this is now poised for a positive turn, as the supply of labor is beginning to drop. Japan’s unemployment rate has already declined to 3.8 percent and, I believe, a slide to 2.5 percent over the next year is a very real possibility.

As Japanese labor gets scarce, its price will go up. Add to this the super-clean balance sheet and positive wealth effects, and you’re set for a powerful domestic demand up cycle. Abe is a lucky man because Mr. and Mrs. Watanabe have done the hard work already.

Jesper Koll is a managing director and head of research at J.P. Morgan Securities LLC.

Jesper Koll is a managing director and head of research at J.P. Morgan Securities LLC.

To be bullish on consumption, we need two essential forces: rising incomes and positive wealth.”