Global Macro Research - Japan: A window for optimism | Insight Investment

With the Bank of Japan raising rates for the first time in decades, and Japanese equity markets performing well, many are questioning whether Japan has now finally exited its low-growth era. In our view, the answer to that depends on whether a short-term or longer-term view is being taken. There are three key reasons we believe the current optimistic outlook for the Japanese economy is likely to be sustained over the next few years:

1.      Real rates are underpinning growth

An important factor driving growth over recent years has been the level of real interest rates. Although nominal interest rates have been at zero for most of the last 20-plus years, real rates have fluctuated significantly over that period. Until 2012, real rates were relatively high as the economy experienced periods of deflation, and even in the years following the introduction of the Bank of Japan’s yield-curve control policy, real rates were only modestly negative. It is only since the start of the Ukraine war, when import prices surged, that real rates moved into negative territory.

2.      Corporate Japan has become more profitable

Although Japanese corporate profits slumped during the pandemic, profitability has been on an upward trend for over a decade and reached new record levels in 2024. This rise in profits has been driven by a broad range of factors. Having gone through a painful period of deleveraging, many corporates had significantly improved their balance sheets through the early part of the century. This created a positive backdrop for the launch of Abenomics in 2012, with the third ‘arrow’ of Prime Minister Shinzo Abe’s structural reforms focused on improving long-term growth – including improvements in corporate governance and measures to increase competitiveness. Japanese exporters have also gained from a weaker yen.

3.      More profitable corporates are paying higher wages

The first period of sustained inflation for a generation prompted demands for higher wages from workers, and encouraged by the authorities, large Japanese corporates agreed to material wage raises. Wage growth then broadened to smaller more domestically focused firms, including those within the service sector. With inflation returning towards 2%, real wage growth has been rising by more than 2% and surveys of wage intentions suggest it can remain positive in the near term.