RaboResearch - Economic Research

Japan: Increased stimulus will not prevent recession

Economic Comment

  • The Bank of Japan has recently announced new stimulus measures to fight COVID-19
  • BoJ has become more gloomy about Japan’s outlook and now expects GDP to decline between 3% and 5% in 2020, the lower end of which is close to our own estimate (-4.8%)
  • We think Japan’s recession and weak oil prices will cause inflation to become negative this year
  • We don’t think the monetary stimulus will increase bank lending much, partially because Japanese bank profits have been hurt by BoJ’s ultra-loose monetary policy
  • Meanwhile, SMEs in Japan are struggling to pay their fixed costs. The majority of SMEs does not have enough cash to withstand several months of lockdown
  • Some of these SMEs will go bankrupt, which will increase unemployment
  • We believe the government’s efforts will not prevent Japan from entering a deep recession

BoJ: Limitless

On April 27 the BoJ announced a host of new stimulus measures to help Japan cope with the economic effects of COVID-19. First of all, the Bank removed its purchase limit of JPY 80 trillion worth of JGBs per year as part of its yield curve control policy. That seems like a bold move, but its relevance is more symbolic than practical. Since 2018, the BoJ has not had to purchase anywhere near this amount of JGBs to keep the yields on 10 year bonds near zero (figure 1). Partially, this is because BoJ currently owns almost half (48%) of outstanding JGBs (figure 2). Because there are fewer JGBs outstanding, any purchase by the BoJ has a relatively stronger effect on their yields. Moreover, the lingering ‘threat’ of yield curve control prevents a sharp rise in yields.

Figure 1: BoJ has purchased much less than JPY 80 trillion worth of JGBs
Figure 1: BoJ has purchased much less than JPY 80 trillion worth of JGBsSource: Macrobond, Bank of Japan
Figure 2: Partially, because BoJ owns almost half of outstanding JGBs
Figure 2: Partially, because BoJ owns almost half of outstanding JGBs Source: Macrobond, Bank of Japan

Secondly, the BoJ stepped up its efforts to help Japanese firms raise capital from the money market and capital market. The central bank increased its annual purchase limits for corporate bonds and commercial paper by JPY 7.5 trillion each, bringing the combined total purchases of these two asset classes to JPY 20trn per year (from JPY 5trn). Third, the Bank offered to pay 0.1% interest to financial institutions that make use of its new loan program to help firms that are low on cash.

On the rates side, the BoJ left things unchanged. BoJ kept its overnight target rate at -0.1% and its yield target for 10 year JGBs steady at 0%. And, unlike the increased limits for bond purchases, purchases of ETFs and J-REITS were kept at JPY 12 trillion and JPY 180 billion per year respectively.

Meanwhile, the Bank’s policymakers have become almost as gloomy as we are regarding Japan’s economic prospects for this year. In its outlook, the BoJ slashed its GDP forecast for fiscal 2020 to a range of -5% to -3%; the lower end of which is close to our own estimate (-4.8%). Given this economic weakness and weaker oil prices, we expect inflation to become negative in Japan this year and to remain weak in the coming years. In a somewhat gloomier scenario, Japan might even get caught up in a deflationary spiral.

Declining bank profits will inhibit lending

The BoJ’s ultra-loose monetary policy and yield targeting has made Japan’s yield curve almost flat (figure 3). And since yield curve steepness is the bread and butter of commercial banking, an important side effect of this is that Japanese banks have seen their profits dwindle since 2016, when the BoJ began its yield targeting (figure 4). We think that the combination of this declining profitability and Japan’s dire economic situation will make Japanese bank reluctant to increase lending a lot, which hinders the effectiveness of the BoJ’s stimulus efforts.

Figure 3: Japan’s yield curve has become flat
Figure 3: Japan’s yield curve has become flatSource: Macrobond
Figure 4: Which has hurt Japanese bank profits
Figure 4: Which has hurt Japanese bank profits Source: Macrobond, Bank of Japan

Cash-strapped SMEs and the first signs of rising unemployment

From the fiscal side, the government’s stimulus package is mostly geared towards loans to keep companies from going bankrupt, as we argued in our previous Monthly Outlook. As part of this package, the Japanese government has recently announced a zero percent interest rate loans program for SMEs and a plan to subsidize 100% of the salary of employees at small firms.

The government’s focus on SMEs is understandable. SMEs are crucial for Japan’s labour market, as our FX strategist Jane Foley mentioned in a recent note. According to the OECD, SMEs account for about 70% of Japan’s employment. So a sharp increase in SME bankruptcies would have a major impact on Japanese unemployment and, consequently, on consumption.

And indeed, Japan’s SMEs seem to be in trouble. A recent survey by NN Life Insurance indicated that almost 60% of SMEs will not survive if lockdowns in Japan last longer than a couple of months. A sizable part of these SMEs (25%) were already in urgent need of cash (to pay for their fixed costs such as rent and salaries) by the end of March, when the survey was conducted.

Meanwhile, the first signs of rising unemployment in Japan are here. Unemployment is currently still low at 2.6%, although it has been steadily rising since December 2019 (2.1%). Moreover, the pressure on Japan’s job market is clearly easing. An important indicator for the tightness of the labour market, the job openings-to-applicants ratio, has fallen to 1.39 in March this year (from 1.57 in December 2019). Overall, we think the government’s efforts are more akin to patching up than a cure. The measures will help cushion a sharp rise in bankruptcies and an accompanying rise in unemployment, but they will not prevent a deep recession in Japan.

Table 1: Economic forecasts
Table 1: Economic forecastsSource: Rabobank


Raphie Hayat
RaboResearch Global Economics & Markets Rabobank KEO
+31 6 1038 7752

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