The Japanese market is famous for being contrary - not a haven for contrarian investors but for the ...
The Japanese market is famous for being contrary - not a haven for contrarian investors but for the fact that whatever domestic investors seem to think, foreigners tend to take the opposite view. With globalisation, it is tempting to believe that all markets respond in the same way, and that perceptions are uniform across the world.
So the recent rate rise, the first for 10 years, has put the wind up foreign investors, who were losing faith in promises of a Japanese recovery. The Bank of Japan's (BoJ) zero interest rate policy, introduced in the depths of crisis 19 months ago, has been ended with a 25 basis point rate rise. Many investors think this is madness, with economic growth still so fragile.
Japanese politicians and the Ministry of Finance agree. Tighter monetary policy will certainly threaten unstable companies, provoking bankruptcies and job losses, which politicians don't like to deal with. Their opposition has nothing to do with the possible effect on the economy. The Ministry, meanwhile, is concerned with the strength of the yen and considers the goal of returning to a "normal" monetary environment a cosmetic measure designed mainly to flatter bank grandees.
The rate rise was extremely well flagged. Last month, the BoJ was about to act but was stalled by the collapse of Sogo, the country's premier retailer. Yet as soon as the market calmed down, it closed in. The prompt action has boosted its credibility, allowing it to seize the initiative and lead the market. The move proclaims that there is no longer an economic emergency, and that failing companies will not be bailed out - surely two very positive factors for investors?
The problem is that the stock market is not applauding. Why? The answer lies in the composition of the indices, which are dominated by technology stocks. Last year, foreign investors piled into this sector, buying almost indiscriminately. This year they have been selling, just as furiously. The skewed supply and demand accounts for the poor stock market response. While unreconstructed firms squeal at market pressures, the stronger companies are navigating monetary changes skillfully. While interest rates have been low, many have taken the opportunity to fix their long-term borrowing requirements; changes in short term rates will not affect their borrowing costs for some time.
Loan growth might indeed take a dip, but the Japanese banking sector has also been transformed, and is in much better shape than October 1998, when there was a real risk of systemic collapse. Consolidation has reduced their number from 18 to six currently, but bank share prices are still at levels they were two years ago. The latest move increases Japan's overnight lending rate but not the base rate, which remains at 0.5%, where it has been for some time. Historically, the Japanese stock market has risen along with rises in long term interest rates. Although it may not feel like it, since the end of 1998, the yen has recovered against the dollar, the economy has begun to grow again, and the stock market is 50% higher. Not much wrong there.
There are differences among world markets. In the big-spending west, inflation is a constant threat. In Japan, however, where savings rates are positively saintly, deflation, not inflation, is the policymakers' nightmare. A very small rate rise, thoroughly flagged, heavily discounted and accompanied by earnest promises of continuing loose monetary policy, is nothing to be scared of. Japan wants growth, like the rest of us. It just has a rather contrary way of going about getting it.
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