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Japan Fights All-time High Recession as Production Plunges

The third-largest economy in the world slumped into a recession in the last quarter of 2014, a trend that may not ease out as the financial markets usher in the New Year. 

Japan Fights All-time High Recession as Production Plunges

The Japanese recession, which was a long time coming was triggered by a sales tax that was imposed in April last year. As a result, the country’s gross domestic product declined by 1.6 percent from April to September, leaving no doubt that the economy is battling a recession. The Cabinet Office reported that the GDP dropped by an annualized rate of 3 percent when price adjustments are taken into consideration.

These pessimistic reports on the economy probably mean that Prime Minister Abe Shinzo will have to shelve the planed tax increase that was set to kick in in October 2015, a move that could necessitate snap elections.

The last recession of this magnitude was witnessed in 1997 when the government increased the consumption tax, a move that led to the dissolution of the then government.

According to Jesper Koll, head of strategy at JPMorgan Chase & Co. in Tokyo, “Japan is in a recession that was triggered by the VAT hike.


Weak trade and internal consumption

In the last quarter, exports and consumer spending showed signs of stabilizing. However, these trends were not adequate enough to counterpoise the already significant impact of the declining value of unsold stock, an indication that manufacturers were hesitate to increase production. Other sectors including government spending and residential real estate showed some gains in the same quarter.

Unadjusted nominal GDP declined for a second time in the last quarter, a trend that continues to impact corporate profits and tax revenues. In particular, the 7.9 percent decline is way below the levels seen in 1997.

The hike in sales tax from 5 to 8 percent caused a dip in the economy, the largest decline in more than five years. Although the government has planned to further increase the sales levy to 10 percent in 2015, those plans will likely not materialize.


Trade performance

Soon as the reports of a recession were released, the yen has continued to tumble against the dollar. Momentarily, the yen dropped to below 117 against the dollar, a move that was last witnessed in October 2007 following the global financial crisis.

In an effort to stabilize the economic performance, Prime Minister Abe is looking to shelve plans to hike the levy until 2017 and call an early election to get support from the public.

Data on net exports increased GDP by a measly 0.1 percent in that last quarter. In an attempt to stabilize the economy, in December the government approved 5.5 trillion yen to be spent, an indication of its commitment to increase stimulus.

The ruling Liberal Democratic Party is also looking to curb the impact of the sprawling energy prices and poorly performing yen.


Cost of living

Japan has enjoyed considerably moderate inflation for close to 15 years now. Households are deeply feeling the 1 percent price increase on consumer products. Inflation is inevitably outpacing income, a trend that could impact domestic consumption and the public’s perception of the ruling party. 

Inventories from private companies deducted 0.6 percent from GDP in the last quarter of 2014, an indication that companies were less enthusiastic about increasing production against the background of a weakening economy.


Impact on the markets

In summary, the Japanese recession will have several impacts on the forex markets:

·         The Yen is expected to remain highly volatile for some time. The overall trend is bearish but it could encounter corrections later on due to market variables.

·         The USD/JPY pair will remain bearish as long as the stock markets in Tokyo are in decline. The decision to delay the tax hike to 2017 has seen stock take on a bullish trend. However, at the peak of the recession, it is expected that the stocks will take on a bearish trend.

·         There could be a decline in stocks and strengthening of the Yen.

·         The recession is expected to be temporary and the Japanese economy will likely respond positively to government stimulus.


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