Japan’s Next Big Export Could be Deflation

Japan’s surprise descent into recession is going to have big repercussions. It means the abandonment of a planned increase in sales tax. It will lead to the country’s prime minister, Shinzo Abe, calling a snap election. It will herald the end of Abenomics if he loses, and it will lead to a further weakening of the yen on the foreign exchanges.

Let’s take those in order. Abe’s plan for the Japanese economy involved a loosening both of monetary policy through quantitative easing – creating electronic money – and fiscal policy -higher spending on infrastructure. The hit to Japan’s public finances from the extra spending was supposed to be clawed back by tax increases further down the road. Sales tax was increased in the spring and a second hike was due next year.

Two quarters of declining gross domestic product were certainly not part of the plan. It has been clear for some time, however, that Japan’s economy has been struggling, and Abe’s government was already thinking of scrapping the second tax increase even before the news that it is contracting at an annual rate of 1.6%. There is no way Tokyo will now stick to the plan.

What’s more, it looks highly likely that Abe will seek a fresh mandate for the three arrow policy that bears his name – using a mix of monetary policy, fiscal policy and structural reform to boost growth and lift Japan out of deflation.

Whoever wins the election will almost certainly take steps to stimulate activity. More QE is in prospect, and the main channel through which QE works is by driving down the exchange rate. The yen has hit a fresh seven-year low against the dollar and it is likely to fall further over the coming weeks and months.

via The Guardian

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Alfonso Esparza

Alfonso Esparza

Senior Currency Analyst at Market Pulse
Alfonso Esparza specializes in macro forex strategies for North American and major currency pairs. Upon joining OANDA in 2007, Alfonso Esparza established the MarketPulseFX blog and he has since written extensively about central banks and global economic and political trends. Alfonso has also worked as a professional currency trader focused on North America and emerging markets. He has been published by The MarketWatch, Reuters, the Wall Street Journal and The Globe and Mail, and he also appears regularly as a guest commentator on networks including Bloomberg and BNN. He holds a finance degree from the Monterrey Institute of Technology and Higher Education (ITESM) and an MBA with a specialization on financial engineering and marketing from the University of Toronto.
Alfonso Esparza