FactSet’s Sara Potter, Vice President, Market Analysis, explores Japan’s current economic situation, including their credit rating and population factors, to see where the country might be headed.
Credit Trouble
In January, credit ratings agency Standard & Poor’s downgraded Japan’s sovereign credit rating from AA to AA-. The agency’s decision was based on their evaluation that the nation’s debt, already nearing 200% of GDP, would continue to grow in the face of continued budget deficits and sluggish economic growth. What will it take to get Japan out of this debt hole?
Japan’s economy has been in the doldrums for the past 20 years, and was particularly hard hit by the global economic downturn in 2008 and 2009, contracting by 1.2% in 2008 and 6.3% in 2009. Over the past two decades, the government continued to pour money into the economy in various attempts to boost economic growth. However, with consumer spending and private investment stagnating, GDP growth never seemed to gain significant momentum and the country suffered through four economic recessions during the period.
As a result, Japan’s government began running a budget deficit that is expected to hit a record high this fiscal year.
Click to enlarge the chart at right for a look at Japan's total debt compared to debt at a percent of GDP.
Population Strains
Looking into the future, the main hurdle to reducing the budget deficit is the increasing strain on the nation’s social security system due to the rapidly aging population. While Japan’s overall population numbers have actually declined in the past few years, the population aged 70 and over has been surging. This demographic now makes up 16% of the population, double the share it was 20 years ago. The social security system is not equipped to handle the burden of supporting its seniors as the number of working-age people declines. Many Japanese leaders and observers are looking to the government to reform the social security and tax systems; however, there is significant opposition from various political parties within the Diet that make this unlikely in the near term.
Click on the chart at right to take a closer look at Japan's aging vs. total population.
Signs of Improvement
The economy is showing initial signs of a recovery. Japan has an export-led economy, and exports surged by almost 25% in 2010 in response to a global return to growth. Japan continues to run a current account surplus with the rest of the world, and it appears that the country’s persistent deflation is now beginning to reverse. These positive signs are leading many domestic leaders to predict that 2011 will represent a turnaround for the Japanese economy.
The debt crisis in Europe has put a harsh spotlight on countries with significant amounts of debt. However, one positive for Japan’s outlook is that most of their debt is held domestically, in contrast to Greece, where the significant holdings by foreigners led the debt market to collapse when fears of default suddenly jumped. However, with the S&P rating downgrade comes more intense scrutiny of Japan’s fiscal situation.
Note:
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