Standard Life Investments

Weekly Economic Briefing

Japan & Developed Asia

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In recent decades, Japanese household behaviour has confounded conventional economic theory that argues spending behaviour reflects rational assumptions about future income and asset returns. While the saving rate has more than halved since 1995, real income growth has been weak as companies look to save costs by holding down wages (see Chart 8). What has been a more important factor is the impact of its rapidly ageing population on saving decisions. As the proportion of retirees has grown, so too has their need to draw down savings accumulated over their working life. Despite progress in reconciling the idiosyncrasies of Japanese household behaviour, the events of recent years have placed even this wisdom under threat.

Inconvenient truth Ye of little faith

The saving rate has confounded its long-term trend, having rebounded strongly from its 2014 low with no discernible change in the demographic trajectory. Furthermore, recent disposable income and consumption trends point to a reversal again in 2017. If it is not ageing driving fluctuations in the saving rate, what might it be? The most obvious place to start is expectations for future income and asset returns. Given financial assets represent a relatively small part of Japanese wealth, and that there is limited capacity for households to capture rising housing equity, any wealth effect is likely to be limited. This places a significant weighting on the outlook for incomes. Given the lifetime employment structures in Japan, the signalling around future earnings is relatively clear – largely reflecting base pay increases in the Shunto wage negotiations. Unfortunately, corporates have been reluctant to raise this portion of wages in recent years, with the spring 2017 negotiations averaging about 0.4% year-on-year. The outlook for 2018 should be better given strong corporate profit growth and a higher year-average inflation rate. However, the prospect of a breakout in wage growth seems limited given that the output gap was more positive and more persistent in the mid-2000s cycle (see Chart 9). This partly reflects the higher capacity of the population due to rising migration, higher elderly and female participation and an increase in automation than traditional labour market metrics would indicate. For this reason, we suspect expectations about ‘life-cycle’ income are likely to be highly adaptive (much like inflation expectations). This means that the progress in terms of shifting saving rates driven by higher household incomes is likely to be slow.

An alternative explanation is that recent fluctuations in the saving rate reflect shocks that are only likely to have temporary effects. The decline in the saving rate began in 2012 and coincided with two factors: 1) the first cluster of baby boomers born in 1947-1949 reaching retirement 2) elevated spending as consumers brought forward demand in anticipation of a hike in the VAT rate. On this basis, we would put the rebound in the saving rate down to efforts to rebuild household balance sheets following this slump. Such conclusions would suggest conventional concerns about future income and wealth are not yet exerting their influence on Japanese household spending. That is disappointing but not unreasonable given the fact that it has been nearly two decades since Japanese workers have seen their base pay fluctuate significantly year-on-year. The process of relearning will take some time.

Govinda Finn, Japan and Developed Asia Economist, Standard Life Investments