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Sun rising again on Japan economy

By Geoff Hiscock, Asia Business Editor

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TOKYO, Japan (CNN) -- One month after Shinzo Abe came to power as prime minister, Japan stands on the cusp of its longest period of sustained economic expansion in the postwar era.

After the dismal policy failures of the 1990s produced a decade when the world's second largest economy seemingly lost its way, commentators in Japan now agree that the outlook for 2007 and beyond is robust and bright, with the country uniquely positioned to withstand external shocks.

By the end of October, the pattern of cautious growth that began in early 2002 will see Japan eclipse the 57-month "Izanagi boom" of 1965-70 when industrialization was the watchword of the country's expansion.

Exports are up in 2006, but more importantly, business confidence continues to grow and banks are prepared to lend more readily.

With capital spending on the rise, employment and wages are up and the specter of deflation that has weighed so heavily on the Japanese economy since the early 1990s is fading. One recent indicator is that house and land prices finally are on the rise.

And as consumers feel more confident about job security, they are spending more, with prices starting to reflect the more optimistic mood.

The coffee-shop chain Starbucks, for example, said this week it would lift its prices from November 8 -- the first such increase since it entered the Japanese market in 1996.

Economic commentators agree that after spasmodic growth spurts in the late 1990s, this time the expansion is sustainable.

Richard Jerram, chief economist for Macquarie Securities, told CNN in Tokyo this week that Japan's growth could comfortably run for the rest of the decade.

"I see a steady but cautious revival that is in its early stages and has much further to run," he said.

Jerram says the record recovery of the past five years had come about purely by chance, rather than by policy intervention.

No real policy input

He says that in 2002 and 2003, there were separate export-led recoveries, followed in 2004 by the start of a domestic-led recovery that is now in its third year.

"Normalization has been going on now for three years. But business has been scarred by the previous 15 years. So it is only now that we are seeing a change in behavior, where the corporate sector thinks it can make money again. It is hiring, investing and borrowing."

Takuji Aida, chief economist for Barclays Capital in Tokyo, is equally optimistic.

"There are no handicaps facing the economy," he said, noting that the bad debts which dragged down the major banks in the late 1990s and early 2000s had been cleaned up, allowing banks to take a lending attitude that he characterized as "aggressive."

"We are very optimistic over the next few years," Aida said. "Consumption growth of 2.5 percent in 2007 will be better than the GDP rate and will drive the economy in 2008," he said.

The consensus among economic commentators is that Japan will post real GDP growth of about 2.3 percent this year, with about 2.2 percent in 2007 and 2.0 percent in 2008.

This assumes no real policy input on the economic front from the Abe administration. The view is that Abe is more interested in foreign policy -- political relations with China, South Korea, and the United States, and in confronting North Korea over its nuclear ambitions. On the domestic front, his priorities are constitutional, education and social reform.

The economy, it is assumed, will take care of itself.

The threat of external economic shocks also is fading, to the point where Jerram and Aida think that Japan is in a unique situation.

Higher interest rates

They say that the slowdown in the United States or a possible hard landing for the Chinese economy after its runaway growth rate of recent years will have little real impact on Japan.

Jerram says Japan's domestic economy effectively is decoupled from global shocks, with manufacturing accounting for only 20 percent of the economy, and exports more diversified. While change in the U.S. or China might deliver some short-term setbacks, he says domestic consumption is now the key driver, in reaction to 15 years of policy distortion.

Aida agrees that there is no longer a reliance on exports to deliver growth. Changes in energy prices have had a limited impact, and he expects no policy change from the Abe administration until a possible increase in the consumption tax rate in 2009.

On interest rates, Aida expects the central Bank of Japan to tighten gradually to a maximum of 1.5 percent by March 2008, when incumbent Governor Fukui is due to step down.

There are some weak spots on the horizon. Inventories in the information technology sector have built up, suggesting a period of adjustment ahead. Department store sales are down, but Internet-related selling is rising. Spending on services, including travel and entertainment, is up, and purchases of durable consumer goods have jumped 7 percent this year.

The view from the Bank of Japan down is that barring natural disaster or a catastrophic external shock, Japan looks to be in good economic shape for the rest of the decade.

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