Week Ended: April 4, 2008

Postcard from Japan

Visitors to Japan lucky enough to catch the spring "hanami," or flower viewing, season will likely marvel at the abundant beauty of the blossoming cherry trees. The splendor of the short-lived blossoms is considered a reason for celebration. During my recent visits to Tokyo and Osaka, just weeks prior to the expected blooming of the cherry blossoms, however, I heard less than celebratory rumblings of higher prices that somewhat dampened the typically joyous period of anticipation. However, inflation may be just what Japan needs to breathe new life into domestic spending and wage growth, both of which have remained stagnant for years.

While real estate prices, especially in Tokyo, have appreciated over the past few years, goods and services have generally been wrestling with deflation. The latest reading of the consumer price index was 1%, low by global standards. But juxtaposed with 10 years of overall deflation, this is the highest increase in price levels since the spring of 1998. Inflation data, particularly as it relates to food and petrol prices, is inherently volatile. Drawing too many conclusions from this data alone could therefore prove problematic, especially given the recent strength of the yen. Anecdotally, however, a leading services company I met with had scheduled its first price increases in more than a decade. Furthermore, Japanese consumers expect inflation to keep rising, hurting sentiment in a country where wages have stagnated despite the revival experienced in the corporate sector since 2003. Recent union salary negotiations have not been encouraging; Toyota announced monthly pay increases of ¥1,000, or about US$10.

Inflation, when thought to weigh on consumer confidence and eventually on spending, tends to be viewed negatively by equity market participants. But it may be exactly what Japan needs in the longer term. In an environment of falling or stable prices there is less pressure from employees to demand higher wages. Japanese remain among the world's richest citizens and enjoy one of the highest GDPs per capita. But workers have found their spending power tread water in comparison to that of their neighbors in the rest of Asia. Deflation also gives consumers less incentive to spend today rather than tomorrow, since patience is rewarded with lower prices. People can put up with some degree of continued discomfort. But pain, now that is a different matter. The fact that Japanese consumers are now feeling a sharper pinch of inflation at the grocery store may represent a much needed catalyst for change. Change could come at the price of some pain in the short term. But just as the cherry blossoms need to fall in order to bloom again, a little pain may be exactly the tonic needed for Japan's long-term strength.

Regards,

Jesper Madsen, CFA
Portfolio Manager
Matthews International Capital Management, LLC

 

 

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The subject matter contained herein has been derived from several sources believed to be reliable and accurate at the time of compilation. Matthews does not accept any liability for losses either direct or consequential caused by the use of this information.