A recent trip to Japan has convinced us that the economic recovery is not only real but has potentia...
A recent trip to Japan has convinced us that the economic recovery is not only real but has potential to accelerate
Many companies have seen a sustained pick-up from mid July even more encouraging was that economic conditions in Osaka and the Kansai region also appear to be bottoming. In recent years the economy there has been weaker than in Tokyo and has pulled down overall growth figures. We now expect third quarter GDP (July to September) to be positive quarter on quarter and our target for March 2000 is above 1%. Assuming another fiscal package, this should accelerate to March 2001
Over the past year we have seen seen a huge fiscal stimulus from October's massive ¥24tr package, a variety of tax cuts, both corporate and individual, a bail out of the large banks, amounting to debt forgiveness and a ¥25tr debt guarantee programme for small/medium sized companies all this at a time of stabilisation/recovery in Asia. It would have been surprising if the Japanese economy had not been showing improvement
However, many of the problems still remain, particularly the dual burdens of the current massive fiscal deficit and the burgeoning national debt. These issues still need to be resolved but are unlikely to detract from the recovery. The economy may naturally weaken towards the latter part of the year as the effects of last year's stimulus fades, but almost certainly there will be another package ensuring the economic recovery does not stall. At some point this prop will have to be removed, but the government is keen not to kill the seeds of growth
A recovering economy is unsurprisingly leading to recovering profits. Moreover, the extent of cost-cutting across all companies is feeding through to a substantial pick-up in profitability. Many companies' revenues appear to be better than expectations in the first half. Much of this cost-cutting has been undertaken during a recession and price pressure, together with negative revenue growth, offset much of the benefit. A recent report by Warburg Dillon Read shows that Japanese manufacturers have been very successful in reducing costs over the past five years, with many sectors managing to reduce nominal manufacturing costs by over 10% last year alone
Inventory adjustment is, in many cases, now complete and is no longer constraining growth or pressuring prices to the same extent. So the gearing effect of cost reductions on top of revenue growth is not only impacting profitability immediately but is also being magnified
The real concern surrounds the yen, which has the potential to spoil the recovery particularly if it makes a sustained move through ¥100/US$. The Bank of Japan is showing no sign of changing policy to weaken the currency and so, without concerted intervention, it looks likely to continue strengthening. We feel Japan needs a rate of around ¥110 to enable the recovery to be sustainable so the yen above 100 is a major risk both to the economy and to the stock market
Simon Somerville is fund manager at Cazenove Fund Management
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