Political System
Japan has a western-style democratic institution in name only. Institutions are a facade in Japan. There is a legal system to protect civil rights, but no one uses it. Many marriages are dysfunctional, but there are few divorces. Most have a job, but can`t justify it.
Nevertheless, the political process is increasingly becoming more like the west. Historically political power has been retained by the Liberal Democratic Party (LDP), which has won all but one election (1994-5?) since the US Occupation. Within the LDP faction leaders held most of the power because of their capacity to generate campaign funds. Money has always meant power, and in Japan this has meant considerable misallocation of postal savings & tax receipts into dubious public works programs. Corruption was an accepted part of politics until the late 1990s. Adoption of the Political Funds Control Law was however discouraged corruption, and thus weakened the power base of faction leaders. Faction heads unable to find a leader to ignite a party lagging in the polls, chose a 'lone wolf' in Junichi Koizumi. To their surprise, Koizumi has emerged as a populist leader and a reformer. His popularity gave him the power in the recent Sept 2005 election to oust the old faction MPs who opposed his reform agenda (Postal Savings Proivatisation Bill), and replace them with popular public figures with no political history. The strategy worked, and Koizumi was able to swing more votes, and thus a mandate for his reform agenda. At the same time, he was able to introduce women MPs into the parliament and unify the party behind him, as well as increase their power.
Its apparent that Koizumi has learned a great deal from US politics - whether under the instruction of US political analysts or his own minders. He danced with Richard Gere, appeased conservatives by visiting the controversial Yasokuni Shrine honouring Japanese soldiers, published his own Elvis hits, named his website after his hair style and expediently (before an election) appointed a string of women to his party, in the hope of drawing alot of support from women for his pro-reform agenda, since few young Japanese women vote.
During the last 4 years Koizumi has been unable to convince LDP faction leaders of his reform agenda. Some opposed it outright, others had their own schemes. He responsed by ousting those opponents, replacing them with outsiders whose popularity was tied to his, and made the Postal Reform Bill the focus of this election. In the wake of the election, the factions are cosiderably weakened. Ryutaro Hashimoto, the Ryotaro 'Hashimoto faction' leader has retired, and another faction leader - Shizuka Kamei - has been purged, while their factions have lost 15 and 12 lower house seats respectively to Koizumi's benefit. Both leaders opposed his Postal Reform Bill. He got his `reform mandate`, meaning that the government will in its next term of government be able to achieve a great deal. The big issues are:
- Social Security Reform: The social security system costs are rising by a modest Y500 billion per year due to the country's aging population. In 2004 social security expenditure rose by 0.8% to Y84.27 trillion.
- Health Insurance System: Every year the health insurance system has a funding shortfall of Y300 billion covered by the government.
- Pension System: The number of aging baby boomers retiring will increase greatly after 2007. Pension, nursing & medical costs accounted for Y59.3trillion (70.4%), with just Y3.16trillion spent on children, family support (including child rearing & child birth benefits), equal to 3.8%. Pension benefits amounted to 53% of payments in 2003 and medical benefits 31.6%.
- Bureaucracy: The public service is over-paid by up to 20%, and in need of cut backs. Japan Post is one of the worst offenders.
- Public sector debt: A great deal is made of the public sector debt (150%of GDP), however it could quickly be slashed by a series of privatisations, whether its NTT, Japan Post, Japan Airlines, Tokyo Electric, Tokyo Gas, airports or other government-owned infrastructure. The government can also resort to printing money. Importantly this public sector debt is mostly owed to Japanese citizens, so a new tax would just redirect the burden to a more prosperous sector of the economy.
Substantitive reform is needed in these areas, and its mostly likely that the consumption tax will be increased from 5% to 10%. But the public sector represents just 25% of the economy. Koizumi will need to pass significant reforms in the private sector to boost productivities and incomes, otherwise a higher consumption tax will just undermine consumption. In Koizumi's favour is the fact that the real estate market is priced on 'attractive yields' and foreign investors are keen to invest in Japan given their over-priced domestic markets and the possibility of reform in Japan. Facing a sanguine foreign export market, domestic economic growth will require income growth - wich will drive spending and the housing market to underpin confidence. With so much money swashing around, there is little chance that softer foreign markets will undermine that.
The government is attempting to get its budget under control. It has postponed an increase in the GST until domestic spending recovers. Public debt serving costs rose 11.1% in 2004-5, whilst grants to local governments are up 4.7%. The Japanese government proposes to cut 10% of civil servants in coming years.
The election result left the LDP with 296 seats (excluding former LDP members who ran as independents in opposition to the Postal Savings Reform), DPJ 113 seats, New Komeito Party 31 seats, Japan Communist Party 9 seats, Social Democrat Party 7 seats, Independents 18 seats, with a total of 480 seats contested. Its thus apparent that the LDP can adopt its 'reform mandate' without the support of its Coalition members - the New Komeito, and some of those former-LDP might reform the party. The LDP only needed 269 seats to ensure the smooth passage of legislation through the Diet. The result gives the LDP a majority position in all Lower House committees. The LDP performed well in the urban areas of Tokyo, Chiba and Kanagawa, areas traditionally strong for the DPJ. The New Nippon Party won just 1 seat, showing that Japanese voters have little faith in 'new institutions', and that they vote for parties not candidates.
Koizumi prior to the election claimed to have no plans beyond his contract expiry in Sept'06. Yet given his overwhelming support among LDP members and the wider public, it seems likely he will stay on to implement his reform agenda. Its likely his comments were made in the light of his stalled agenda. To date he has hardly achieved anything - so to date he's not leaving much of a legacy. Perhaps his greater influence has been to shift executive government from deal-making, consensus-building to image-driven, media-managed policy based on simple messages for the public. If Koizumi leaves, Deputy LDP Secretary General Shinzo Abe seems the most likely replacement. He's 50yo, hawkish on China & North Korea. He's popular with women despite his attitudes to sexual equality. He likes to visit the Yasukuni Shrine.
Japanese Economy
The Japanese economy has been subdued since 1991 (about 15 years) as the 1980s property bubble deflated leaving the Japanese banking system in tatters, and undermining personal incomes and domestic consumption. The export-orientated of the economy has remained surprisingly strong (despite a strong Yen)due to subdued domestic demand (for imports) and strong exports to a bouyant US and Chinese/Asian economies. In recent years, inconsistent growth in the Japanese economy has largely come from Japanese capital spending tied to cyclical fixed capital investment and Chinese/US-inpsired export demand and foreign earned income. Since 2004 the Japanese economy gained a little strength from a recovering property & construiction market (after 15years of decline averaging 9% per annum) . New investment was sparked by record low interest rates, increasing preparedness of banks to lend, and high yields on property. Already there are signs of oversupply of residential apartments in & around Tokyo, which is why a rise in household incomes is needed to sustain the economic recovery. This can only come with productivity-generating reform. High oil prices and softer US-Chinese markets will not help.
Japanese household spending fell 3.3% in July05 YoY , due to an average monthly fall in household income by 3.6% to Y572,399. At the moment the gains are patchy. Certain retail groups like furniture and clothing
have benefited from real declines in prices from Chinese imports. More progress is needed on retail reform and utilities to reduce the cost of living. The other retail sector to record strong growth (9.1%) was housing.
The financial system
The Japanese economy has stagnated for the last 13 years whilst households have seen their home equity eroded and backs have haemorraged under the weight of non-performing loans. The problem was that corporations & households were encouraged to debt finance capital expansion, and this spilled into household & public consumption, some of it frivilous spending on rural resorts, civil infrastructure, etc. In the last 13 years the banking sector has been reluctant to lend to households, while corporate demand for finance has been weak. Instead the Japanese banks have rebuilt their reserves by lending overseas to lifting margins. Now that asset prices have stabilised, Japanese banks are feeling more confident about lending. They have made considerable progress writing off bad loans to clean up their balance sheets, such that bad loans have fallen by 28% in the year to Mar'05 to Y24.9trillion ($US240 billion). This figure might however be treated as conservative. Regardless, it will take time for bank credit expansion to get into full swing. There is no doubt more progress can be made in the financial sector. Private banks in Japan trail other developed markets in productivity and innovation. It would not be surprising to see Koizumi allow foreign banks to enter the market, and privatising the Postal Savings & Insurance Scheme is the first step towards an improvement in the Japanese banking system. Privatising the Postal Savings Scheme would mean savings would no longer be channelled into public infrastructure projects, and its likely that interest rates would rise.
The Outlook for Japan
If the Japanese government is able to implement substantive reform, we might expect the government to print money to rein in the excessive public debt (150% of GDP). Most of this debt is held by Japanese institutions and investors at nominal interest rates. Such inflationary pressures would create a `money illusion` to rebuild confidence, whilst the government embarks on its reform program, which would deliver real savings for households.
ADDENDUM
Postal Savings Reform - the start of something bigger: PM Koizumi tried to sell off the post offices (Japan Post) but failed because LDP factions didnt like the impact on rural electorates where the post office is subsidised by generous rent & payments unrelated to turnover. There are some 19,000 privately run post offices in isolated rural areas those existence cannot be justified. Japan Post has been in the red since 1997, and 60% of its expenses are labour costs. This largesse will not change under the current proposed reforms, but will likely be revisited if he wins many seats. Having failed on that, he turned his attention to selling the Postal Savings scheme. This organisation controls Y340 trillion in pension & depositor savings, paying minimal interest. Even members of his own party oppose sale of this government cash-cow. Its because of non-discerning, conservative investors that interest rates in Japan are so low, so if the Postal Savings did not have a political purpose then interest rates would be higher, as they would be chasing higher returns in property, equities and overseas, rather than Japanese govt bonds. Foreigners are not interested in Japanese bonds, so interest rates will have to rise. Thats good for savers. PS: Japanese debt is public, and mostly held by Japanese institutions and individuals. Thus Koizumi need only increase tax or print money to repay it. I bet he will print money to stimulate the economy after he gets some reforms through. This will lift consumption, counter deflation and make everyone feel good about more reform. It will create jobs to replace those lost by reform. Go Koizumi!
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