Three more years

In a nutshell

Following his re-election at the helm of his party, Abe will likely serve three more years as Japanese Prime Minister – making his tenure the longest in the country’s history.
The Japanese economy is currently strong, and Abe’s remaining reform objectives (consumption tax hike, higher retirement age, easier immigration policy) would help make these improved dynamics durable.

The political calendar remains the key risk, with the complex revision of the country’s pacifist constitution liable to take up much time and political capital.

Abe’s re-election as president of the Liberal Democratic Party means that he is almost certain to become the longest-serving Prime Minister in Japan’s history. This impressive milestone, however, masks the fact that the next three years will likely be his last, as the party has a three-term limit. Will it be enough for Abe to cement a change in Japan’s long-term economic trajectory?

His three remaining major reform initiatives will be key in this regard: a further 2% hike of the consumption tax rate,  raising the retirement age to 70, and a more friendly visa policy for foreign workers. The economic rationale for these proposals is very clear. The last consumption tax hike improved Japan’s fiscal balance and made room for business tax cuts. It did hurt consumption, but that impact should be lesser this time due to childcare support and food item exemptions. Later retirement will boost labour participation modestly while curbing pension-related spending, and any opening-up of immigration policy is welcome given Japanese demographics.
 

Investors’ working assumption should be that Abe goes ahead with the tax hike in 2019, and possibly reform of the national pension and visa systems before 2021. But while he seems very confident about public acceptance, the political calendar remains a key risk. The lengthy and complex process of revising Japan’s pacifist constitution will occupy the earlier part of this new term. If it takes up too much of Abe’s remaining political capital, he might enter his final year in office without the ability to push for more meaningful economic reforms. Come 2020 or 2021, other ambitious politicians will also be jostling for his position.

The good news is that the longevity of Abenomics has already materially enhancedthe Japanese corporate sector, thanks to more sustainable revenue growth, favourable financing conditions, and a decline in effective tax rates. Profitability has rocketed since Abe’s return in 2012 (see chart VIII). The Bank of Japan has also successfully engineered a steady tightening of the labour market, with very encouraging results in terms of wage growth and household outlook (see chart IX). Recent weather-related volatility aside, we see good reason to characterize the Japanese economy as strong.