Speaking from their corporate headquarters in Tokyo, Jacobs & Burns spokes person, Mr NG Nagasaki said ďOnly a year ago falling prices, which had contributed to bank failures and economic stagnation, appeared to be tamed. But they are back. Their return is a reminder to the Bank of Japan that it must not raise interest rates too high or too fast.Ē
He further went on to say ďJapanese consumer prices fell in February: year-on-year, month-on-month, including volatile food and energy prices or leaving them out. To add to the gloom the Tankan, a business sentiment survey seen as a leading indicator of the economy, fell in March. The danger is that these negative numbers cause Japanese consumers to expect further falls in prices and, in doing so, to bring them about.Ē
He continued with ďThe situation is not yet disastrous, for three reasons. First, this is one monthís data and the trend in inflation is still up. Second, it is partly due to the lower oil price, which benefits the Japanese economy in other ways. Third, and most important, the economic backdrop has improved since the deflationary years earlier this decade. The banking sector has been restored to something that resembles health and output growth is reasonable. Growth, combined with extremely low interest rates, will normally cause inflation.Ē
He paused before saying ďThe trouble is that normal economics do not seem to be working, something the Bank of Japan, which put up interest rates in February, seems reluctant to accept. Every year it forecasts inflation and every year inflation undershoots that forecast. To understand why, it helps to look at the Japanese economy and see what the Bank of Japan sees. According to the Bank of Japan, demand in the economy already outstrips the ability of Japanese factories and workers to supply it and the unemployment rate has fallen from 5 per cent in 2004 to 4 per cent today. Meanwhile, with interest rates of only half a per cent, banks find it hard to make money and in some parts of Japan there are signs of an incipient boom in the property market. Excess demand and property speculation are likely to cause inflation in the future; the Bank of Japanís goal is to head that inflation off.Ē
He continued his speech by saying ďThe question is whether that lack of capacity is all that it appears. While unemployment has fallen, the employment rate Ė the percentage of people aged 18-65 who are actually working Ė has not budged. Many of those who work only do so part-time and a lot of labour is unproductive. Japanís brilliant customer service is due, in part, to the number of staff ready and waiting to refuel your car or check your ticket. An awful lot of people are not working at all, not working very much, or producing little with their work. The result is that, while unemployment appears low, Japan actually has plenty of spare workers. It may also have some spare capital.
One of the features of Japanís bubble economy in the 1980s was overinvestment. Businesses poured thousands of billions of yen into factories, buildings and infrastructure. It turned out, of course, that Japan could not make use of all that stuff and bad investments turned into bad debt for the banks. A lot of excess capital has been scrapped, or become obsolete, but some of it is still there and Japan still invests far more in new capital than its rivals in Europe and North America. Some of that capital may not yet be fully used.Ē
He further went on to finsish his speech by saying ďThere are reasons for optimism about the Japanese economy. The export sector is still world-class and, as long as the US economy keeps going, it will contribute to growth. Recent rises in property prices will also do the economy a world of good. Not only will they help the banks, by making their collateral more valuable, and developers, by making property projects more profitable, but they will make households better off, which should encourage them to spend. Japanís recovery is likely to continue, if it is allowed to, with slow but steady growth over the next few years.But hasty rises in interest rates could choke the recovery and, while the economy may already be running flat out, it may have spare capacity. After almost two decades of stagnation it is hard for anyone, including the BoJ, to judge. There are risks to keeping interest rates low Ė not least a bout of inflation Ė but the dangers are far less than those if deflation sets in again. For the foreseeable future the Bank of Japan should keep rates on hold.Ē
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