For Japan there is no road but to an economic recovery

Summary: the most contrarian thing you’ll read today.

Japan was a big story in 2014. The hopes for its rise — quickly crushed — created ripples around the world. Today’s post features an article by an expert asking if a new phase in its recovery story will unfold in 2015. A recovery in Japan would give the world economy another locomotive. The data looks provocative and the reasoning seems profound. (This is the 2nd of today’s two posts.)

“If something cannot go on forever, it will stop.”
— Herbert Stein’s Law (US economist, 1916-1999)

Japan: setting sun
A setting or rising sun?

Keiki Kaifuku, Kono Michi Shika Nai
“Economic Recovery,
There Is No Road But This”
—  LDP Campaign Slogan, December 2014

By Peter Karmin of Fort Sheridan Advisors

From the Drobny Global Monitor, 11 December 2014

Posted with the generous permission of the author and Drobny Global Advisors.


For years – if not decades – Japan’s shrinking demographics have been a primary cause for that country’s lackluster economic growth. However, Japan is now reaching a point in its cycle where the population shortage — combined with a scarcity in natural resources and the effects of “Abenomics” – will cause stagflation rather than deflation. This is a structural rather than cyclical change resulting from a shortage in labor and natural resources. The former is a result of declining population/workforce along with stringent immigration laws and the latter is a result of the closing of nuclear power plants following the 2011 Tohoku earthquake and tsunami.

During the past few years, Japan’s unemployment rate has gradually dropped and is now at 3.5% which is the lowest since 1997.

Japan's unemployment rate
Drobny Global Advisors, 11 December 2014

Additional signs of improvement within the labor sector are seen in other surveys. For example, the “Jobs-To-Applicants Ratio” is now at a level (1.1 job openings/applicants) not seen since June 1992 when 10-year Japanese Government Bonds (JGBs) yielded 5% (we have only had to move the decimal over to the left one place during the past 22 years):

Japan: job to applicants ratio
Drobny Global Advisors, 11 December 2014

Recent Bank of Japan Tankan Surveys show that both the manufacturing and non-manufacturing sectors are finding a shortage of available workers {DI: diffusion index}:


Japan: Employment Conditions
Japan’s Economy and Monetary Policy“, speech by Ryuzo Miyao, (BoJ Policy Board), 18 Oct 2014

For example, the trucking industry has a shortage of workers and employs as many 80-year olds as it does 20-year olds:

Japan: holders of large vehicle licenses by age
Drobny Global Advisors, 11 December 2014

The Bank of Japan forecasts the economy’s “structural unemployment rate” at 3.5%. In other words, Japan’s unemployment rate is about to go through the rate at which the BoJ thinks is the lower bound:

Japan: rate of Unemployment and Structural Unemployment
Japan’s Economic Activity, Prices, and Monetary Policy: Relationships between the Output Gap, Prices, and Wages“, speech by Sayuri Shirai (BoJ Policy Board), 29 May 2014

As a result of the improving labor situation, Japan’s “output gap” has significantly recovered from the 2009 lows and by some measures the “gap” is now positive.

Japan: the output gap and the Tanken Composite Indicator
Japan’s Economy and Monetary Policy“, speech by Ryuzo Miyao, (BoJ Policy Board), 18 Oct 2014

The “output gap” is the difference between an economy’s aggregate demand and supply capacity or the formula:

Actual GDP – Potential GDP = Output Gap

Actual GDP = Aggregate Demand

Potential GDP = Supply Capacity

Usually the output gap turns positive as a result of an increase in demand relative to supply. However, Japan’s output gap is shrinking NOT because of increasing demand but rather because of the shrinking supply of labor and natural resources.

Japan: Decomposition of the Output Gap
Japan’s Economic Activity, Prices, and Monetary Policy: Relationships between the Output Gap, Prices, and Wages“, speech by Sayuri Shirai (BoJ Policy Board), 29 May 2014

This is an important change. Up until now, Japan’s shrinking and aging population resulted in a lack of demand. Now, however, the greatest challenge for Japan’s economy is a shortage of laborers and natural resources. These factors combined with the depreciating Yen and the increase in the VAT have moved inflation to levels not seen in years:

Japan: CPI
Drobny Global Advisors, 11 December 2014

Both the Abe Administration and the BoJ have a laser-like focus on securing a continued 2% inflation regardless of what the ultimate costs to the economy are. The Liberal Democratic Party is looking to this weekend’s elections as a referendum on “Abenomics”. As the LDP’s campaign slogan states, “There Is No Road But This”. As long as the BoJ continues its QEE policies {quantitative easing or exchange rate intervention} and Japan’s unemployment rate remains low (especially if they are below NAIRU — the non-accelerating inflation rate of unemployment), we do not see credible scenarios for the Yen to strengthen versus the Dollar. Our current target is an exchange rate of 140 Yen/$.

Ratio of Japan to US monetary base
Drobny Global Advisors, 11 December 2014

The LDP is expected to increase its majority in the Lower House with the election. We have rarely seen such a consensus and complacency over election results. In reality, “Abenomics” is just a great transfer of wealth from savers to Japan Inc. If for some reason the electorate decides to protest this and the LDP loses seats – or its majority – we shiver to think what the global financial markets will do. If there ever was a “Black Swan” event, it is this weekend’s election.

Of course, an LDP loss will only put that much more of the onus on the BoJ to expand its quantitative and qualitative easing {QQE}. Therefore, while the Yen could initially strengthen on a LDP “loss”, the markets will eventually realize that reverting back to the status quo of the Democratic Party of Japan (DPJ) or the Communists (who are polling the highest of all opposition parties) will only cause more problems.

{Note: the LDP won big. although on record low turnout.}

Copyright © 2014 Drobny Global Advisors L.P.

No reproduction, transmission, or distribution permitted without the consent of the copyright holder.


Peter Karmin

About the author

Peter Karmin has extensive experience in managing investment portfolios with a particular emphasis in fixed income products. He co-founded Fort Sheridan Advisors (FSA) in July 2009 and serves as the managing member.FSA provides customized investment solutions to family in fixed income products. FSA provides customized investment solutions to family offices, endowments, pension funds and high net worth individuals. While at FSA, Mr. Karmin has served as the portfolio manager for customized portfolios investing in…

  • mortgage-backed securities
  • investments in Icelandic bonds
  • equity-based option strategies

Mr. Karmin is currently the portfolio manager for the Fort Sheridan Japan Fund which invest in various Japanese financial assets.

Prior to starting Fort Sheridan, Mr. Karmin worked for 15 years for the Perot family in their investment office. While at Perot Investments, Mr. Karmin oversaw bond portfolios (mortgage-backed, corporate and municipal) and served as a portfolio manager for a $2.8 billion hedge fund. Mr. Karmin received a Bachelor of Arts in Journalism in 1987 and  an MBA in 1993. Both are from Northwestern University.

{Bio from his firm’s website}

Seeing the future
Ron Chapple/Getty Images

For More Information

(a)  Posts about Japan:

  1. As Japan sails into the shadows, let’s wish them well and wave good-by, 14 July 2009 — Long stagnation, no signs of a cure
  2. Japan can again become the land of the rising sun. We should watch and learn from them., 1 November 2012 — Falling population & automation are great for Japan
  3. Must our population always grow to ensure prosperity?, 25 November 2013 — More about the benefits of a shrinking population & automation
  4. Japan leads us into a new future, taking the next step in the great monetary experiment, 21 March 2014
  5. What might the failure of Abenomics mean for Japan? Big, unpredictable changes, perhaps with a happy ending.. 18 November 2014

(b)  Posts about the great monetary experiment:

  1. The World of Wonders: Monetary Magic applied to cure America’s economic ills, 20 February 2013
  2. The World of Wonders: Everybody Goes Nuts Together, 21 February 2013
  3. The greatest monetary experiment, ever, 20 June 2013
  4. Do you look at our economy and see a world of wonders? If not, look here for a clearer picture…, 21 September 2013



3 thoughts on “For Japan there is no road but to an economic recovery”

  1. The Japanese have had the dubious honor of being the example that the rest of the developed world (especially those countries with very low rates of immigration) will follow in about 20-25 years.

    I wonder how the US would fare if we compare the Japanese numbers from the early 90’s (six years into their crisis) against our current numbers. I fear our results would be worse.

  2. Japan is suffering similar problems as US, big bubble crash, aging population and low wage workers! This guy seems unaware of that.

    ” cities are now caught in a spiral of aging populations and falling birthrates, increasing temporary and part-time work and skyrocketing welfare payments. The urban degeneration once experienced by big cities, such as New York and London, has now become a reality here. Yet in spite of all this, Japanese politicians remain largely unaware of the crisis in our major cities, which they still see as a force for growth. But the reality is different. And the problem is particularly serious in cities like Osaka, which are noticeably in decline.”
    Direction of Large City Reform – Osaka Metropolis Plan

    1. Winston,

      I am astonished at how posts by major experts get these replies — all the time. America has a shortage of many things, but not self-confident people.

      Look at the bio — this guys knows a lot more about Japan than you or I. It’s his job.

      He’s writing as a professional, a focused article about one aspect of Japan — its economy in the current business cycle.

      This isn’t the usual newspaper guru pretending to sum up the full story of Japan’s present and future in a thousand words.

Leave a Reply

This site uses Akismet to reduce spam. Learn how your comment data is processed.

Scroll to Top
%d bloggers like this: