Abenomics may just work for Japan

When the Liberal Democratic Party returned to power in Japan in December last year, Prime Minister Shinzo Abe vowed to restore growth and inflation through what is now known as Abenomics. This comprised three arrows - monetary policy, fiscal policy and structural reforms.

The monetary policy arrow caught the most attention, with the Bank of Japan now aiming to push inflation to 2 per cent per annum through massive quantitative easing.

How big is the stimulus? The balance sheet of the Bank of Japan is already the largest amongst the G4 (reserve currency) central banks, at 35 per cent of gross domestic product. The Bank of Japan aimed to increase base money by 60-70 trillion yen (HK$4.6-5.4 trillion) a year, or roughly US$60 billion monthly, compared with US$85 billion monthly by the US Federal Reserve.

At these levels, the Bank of Japan balance sheet will rise to 60 per cent of GDP by the end of next year. This is unprecedented monetary escalation. So far, the stock market has risen by nearly 40 per cent, and the yen has depreciated to 99 to US$1.

The second arrow of fiscal adjustment is also pretty aggressive, with the intent to increase public spending by 13.1 trillion yen. This would bring the Japanese gross public debt to over 230 per cent of GDP, already the highest among the OECD countries.

The third arrow of structural reforms will be the hardest, because it has been tried for over 20 years. Japan has a highly efficient export sector, but a non-tradeable service and agriculture sector that is protected and rigid. Abe has created two councils to engineer the shift in productivity and competitiveness. Japan has also announced that it will join the Trans-Pacific Partnership in free trade with the US, which will give foreign pressure to force through domestic reforms.