Japan, Abe And The Yen

The yen has been sidelined this week. It is flat against the dollar. Japanese stocks and bonds are also little changed. The benchmark 10-year bond yield has fallen by less than two bp on the week, the least among the major bond markets.  

The Nikkei is off 0.3% on the week, which is the second best performance in the G7 behind Italy’s 0.2% rise. Although the BOJ equity buying is focused on the large-cap stocks, the smaller cap stocks continue to outperform. This week the JASDAQ and TSE Mothers Index rose 0.7% and 0.9% respectively.  

We had noted that Prime Minister Abe spent some of his political capital to push through controversial reforms that permit a larger international role for Japan’s Self-Defense Forces. It is these issues that fire Abe’s passion, but the economy had to be addressed first. It is not clear that the economy has turned the corner though officials say it has. While China and Europe reported disappointing flash PMIs, Japan preliminary PMI rose to 51.4 from 50.1, which was also well above market expectations, there is some concern that the Japanese economy stagnated in Q2 or worse. 

Support for Abe’s cabinet has fallen 10 percentage points to 37.7% over the past month. The military agenda and the spending overruns on the new national stadium (for the 2020 Olympics) have undermined support. However, there are three events on the near-term horizon that may bolster Abe’s support.  First, next month Abe is expected to deliver a big visionary speech commemorating the end of WWII. Second, the first nuclear plant is expected to come back online since they were all shut following the earthquake, tsunami and nuclear accident in 2011. Third, Abe may visit China in September and a meeting with President Xi.   

It is not clear how much Abe’s speech can rebuild confidence in the government. The restarting of the nuclear plant is also controversial.  Moreover, given China’s criticism of Abe and his nationalistic policies, the meeting with President Xi could be canceled. Nevertheless, as long as the cabinet’s support remains above 30%, the pressure is likely to be modest. A loss of 20% is seen as more serious and a potential threat to Abe’s tenure. Abe is also fortunate that there are no compelling rivals either within the LDP or opposition parties. If there are not major programmatic differences,  it is difficult for a challenger to arise.