Japan’s economy returns to growth despite trade war worries

Japan returned to growth in the fourth quarter of 2018 as the economy recovered from a series of deadly natural disasters, despite pressure on exports from the slowing Chinese economy and the US-China trade war.

A preliminary reading on gross domestic product from Japan’s Cabinet Office reported annualised growth of 1.4 per cent in the three months to the end of December, in line with a median forecast from economists polled by Reuters.

The figure suggests that Japan’s economy is robust enough to shake off external pressures and will deliver moderate growth at least until the autumn, when consumption tax is scheduled to rise from 8 per cent to 10 per cent.

The Bank of Japan is likely to stay on hold, with gross domestic product neither strong enough to encourage monetary tightening, nor weak enough to create pressure for further stimulus.

“Japan’s economy is stable overall and its underlying strength is a bit greater than what is visible in the headline numbers,” said James Malcolm, Japan economist at UBS in Tokyo. “It’s not being propped up by exports, it’s not being propped up by public demand, it’s not being propped up by inventories.”

Household consumption grew steadily and contributed 1.3 percentage points to annualised growth. Business investment added another 1.5 percentage points, pointing to solid growth in domestic demand.

That was offset by a 1.2 percentage point drag from net exports and a 0.8 percentage point reduction in inventories. Inventories cannot grow or decline indefinitely so analysts often strip them out when looking at the underlying health of the economy.

Final sales of domestic product, a measure of underlying demand in Japan, rose at a healthy annualised pace of 2.1 per cent. Given Japan’s falling population, its long run growth potential is often estimated at somewhere between 0.5 per cent and 1 per cent a year.

Growth faster than that pace will use up spare capacity in the economy and push down the unemployment rate, which is already close to record lows at 2.4 per cent.

The main drag on Japan’s economy is coming from overseas demand, with chronic economic weakness in Europe and a slowdown in China.

Barclays analysts Tetsufumi Yamakawa and Kazuma Maeda said Japan was at a “crucial moment of transition from overseas to domestic demand”. Hitherto, the country has been heavily reliant on demand from abroad. However, with China slowing, the domestic economy would have to take up the slack.

“As exports decelerate more clearly, especially to China, the sustainability of the current economic expansion could depend heavily on whether the economy is able to transition smoothly to domestic demand-led growth,” they said.

The main question about Japan’s economy this year will be the impact of raising consumption tax in October. A similar rise from 5 per cent to 8 per cent in 2014 pushed the economy into a recession.

Prime Minister Shinzo Abe’s government is determined to avoid the same result this time around, bringing in a discounted tax rate for food, and promising lots of stimulus spending to offset the hit from higher taxes.

The first report of Japan’s GDP can be unreliable because it is based on limited source data. The second reading, due on March 8, often leads to large revisions.