Why Japan’s Nikkei freak show should scare off Chinese investors

The surge in Japan’s stock market looks out of place and unsustainable in an economy with a shrinking population and falling real wages
Chinese investors shifting money to Japan in the hope of catching the wave should be wary of being left behind when this bubble pops – possibly this year

Andy Xie

Published: 5:30pm, 5 Mar 2024

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The Bank of Japan’s monetary policy is powering the Nikkei index by shifting income from households to the corporate sector via inflation. Meanwhile, Japan’s economy is stuck in a recession and exports are no better than a decade ago.

The case that inflation will power the economy forward is a fantasy. Making people poorer will not make the economy richer. Declining competitiveness has been at the heart of Japan’s economic decline, and reviving inflation will not fix it.

The Japanese stock market seems to be partying like it was 1989. The benchmark Nikkei 225 index has now surpassed the record levels set during the bubble economy years, but the world now is nothing like it was in 1989. Back then, Japanese companies such as Sony, Panasonic and Toyota dominated consumers’ imagination around the world. Toyota is the only Japanese giant standing now, and even it is faltering amid the transition to electric vehicles.

Japan’s GDP was about 60 per cent of the US’ in 1989 but is just 16 per cent now. Its population is shrinking, the number of marriages fell below 500,000 last year for the first time in 90 years and the median age is nearly 50. The Nikkei might be having a party, but the revellers are wearing adult diapers.

Japanese exports reached a record 100.9 trillion yen last year, but in US dollar terms that was only worth US$680 billion thanks to the weak yen. The only good news was the 12.9 per cent year-on-year increase in the profits of the 1,430 listed companies on the Tokyo Stock Exchange.

07:43

From economic ‘miracle’ to cautionary tale: Japan’s development and recession

When the whole economy is stagnant, the corporate sector can only gain at the expense of households. While nominal wages grew 1.2 per cent in Japan last year, they were down 2.5 per cent in real terms. A recession is to be expected when real incomes fall that much, and Japanese corporate earnings sustaining their growth in this environment is unthinkable.

Bringing back inflation has long been a goal of Japanese policymakers and was a centrepiece of Abenomics. That goal has finally been achieved through currency devaluation. The yen has lost more than a quarter of its value against the US dollar – and, by extension, the yuan – in the past two years, and the immediate impact of that inflation is recession rather than growth.

Japan has declined tremendously in the three decades since its bubble economy burst in 1989. Blaming the bursting itself for the country’s malaise is misinformed, as though the bubble itself could have kept Japan great. Japanese policymakers still scare their children with mentions of Yasushi Mieno, the Bank of Japan (BOJ) governor who popped the bubble by raising interest rates.

A bubble often accompanies an economy that is doing well, but that bubble isn’t the reason the economy is thriving – it is a by-product of people becoming overconfident. The bubble shifts people’s attention away from productive activities to speculation. When the bubble becomes huge, in terms of excess asset value relative to income, the hangover from its bursting can hold an economy down for years.

Global stock market surge is a warning as much as cause to celebrate

Bubbles have burst with regularity in modern history, but no country has ended up as damaged as Japan. The US economy suffered during the Great Depression of the 1930s, but by the 1940s its economy had produced enough to win World War II and became the sole industrial superpower for decades after. South Korea’s economy collapsed in 1998 as its debt bubble burst, but it recovered and has surpassed Japan in per capita income.

A bubble bursting can be good news as it forces an economy to restructure and become more competitive. China is experiencing some deflation as its property bubble deflates. Some observers have been quick to make comparisons with Japan, warning that not dealing with deflation – that is, not printing massive amounts of money – risks making China into Japan 2.0.

The real lesson from Japan is the opposite. Deflation was a symptom of Japan’s malaise, not the cause. Losing competitiveness to its neighbours is what made Japan struggle, so the right recipe was to nurture new, competitive industries.

China is not the new Japan. Its exports continue to be strong, and it is among the leaders in promising new industries such as electric vehicles. The Chinese economy is doing what it should, dumping overinflated sectors and embracing new, productive ones.

16:50

Can China learn lessons from Japan’s ‘lost 30 years’?

Many domestic investors look in despair at the weak Chinese stock market and are envious of Japan’s surging stocks. They are shifting their money to Japan, but the odds are that they are catching the last wave.

All the unusual market phenomena today stems from bloated balance sheets at major central banks such as the US Federal Reserve and the BOJ. The Fed is shrinking its balance sheet by US$95 billion per month, which is small compared to the trillions of dollars in quantitative easing following the 2008 financial crisis.

Both the Fed and the BOJ need to shrink their balance sheets as the public’s negative reaction to inflation is starting to cast doubt on their policy decisions.

The liquidity tide is beginning to go out, and the party in the Nikkei is probably at its end. Speculators have not noticed yet, but when the tide goes out – possibly later this year – it will trigger a stampede. Many Chinese who got rich speculating on China’s bubbles won’t be so wealthy when they lose their shirts on distant bubbles.

Andy Xie is an independent economist