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Reload, Reset, or Relaunch?
Japan’s Policy Options
Luc Everaert
Assistant Director
Asia and Pacific Department
International Monetary Fund
September 2016
1
Outline

What has Abenomics achieved so far?

Why has Abenomics not made more
progress?

What are the policy options?

What are the authorities doing?
2
Abenomics met with some success

Reversed undue appreciation of the yen and
boosted corporate profits

Lifted actual and expected inflation

Created modest wage gains and reached
full employment

Made progress on fiscal consolidation

Raised labor force participation and
improved corporate governance
1. What has Abenomics achieved so far?
3
But the targets have not been achieved
1. What has Abenomics achieved so far?
4
Current policies will deliver mediocre
growth and low inflation
Weak growth will persist due to
subdued private demand ….
Contributions to QoQ Growth (SA)
….and inflation will remain
below target
Baseline Inflation Outlook
(In percent)
(YoY; in percent)
3.0
3
2
2.5
1
2.0
0
1.5
-1
-6
Inflation Expectations (y/y) 1/
0.5
-3
-5
Core (y/y)
1.0
-2
-4
Headline (y/y)
Private inventories
Private consumption
0.0
Net exports
Government spending
Private gross fixed investment
Real growth (q/q)
-0.5
2015Q1
2012Q4
2013Q4
2014Q4
2015Q4
2016Q4
2017Q4
Source: Haver Analytics.
1. What has Abenomics achieved so far?
2016Q1
2017Q1
2018Q1
2019Q1
2020Q1 2020Q4
Source: IMF staff estimates.
1/ Average of one-year ahead expectations from Consensus, market based measures and Tankan Survey of firms until
2016Q2. Projections assume inflation expectations are based on a weighted average of past and future rates of
inflation. Jump in 2016Q1-Q2 reflect the effects of the expected consumption tax rate hike in 2017.
5
Public deficits and debt remain high
Fiscal deficits are large
Putting public debt on an
unsustainable trajectory
General Government Fiscal Balance
Japan: Gross Public Debt1/ and Fiscal Balance
(In percent of GDP)
45
45
37.8
32.4
30
34.9
30.7
21.1
30
300
Gross debt (RHS)
2
Fiscal balance (LHS)
0
250
-2
19.8
15
(In percent of GDP)
4
15
-4
-6
Balance
Expenditure
Total revenue
Tax revenue
0
0
200
-8
-10
-12
-15
-15
1990
1995
2000
2005
2010
2015
2021
Sources: IMF WEO database; and IMF staff estimates.
1. What has Abenomics achieved so far?
150
2005
2010
2015
2020
2025
2030
Sources: Cabinet Office; and staff estimates and projections.
1/ Gross debt of the general government including the social security fund.
Withdrawal of fiscal stimulus and consumption tax increases to 10 percent in October 2019 are assumed.
6
Headwinds, structural obstacles and
limits to policy effectiveness
2. Why has Abenomics not made more progress?
7
Global weakness depressed exports and
lowered inflation
Global trade slowdown has
offset benefits from currency
depreciation while….
..falling commodity prices have
failed to boost activity and put
downward pressure on inflation
Real Exports and REER
World Oil Price and Japan Inflation
(2012 Oct=100)
(In percent; YoY)
120
20
10
110
WEO Oil Price
Headline Inflation w/o VAT effect (RHS)
2.0
1.5
0
100
1.0
-10
90
-20
0.5
-30
80
0.0
-40
70
Real exports
60
Jul-10
Jul-11
Jul-12
Source: Haver Analytics.
REER
Jul-13
-0.5
-50
Jul-14
Jul-15
Jul-16
-60
2012Q1
2013Q2
2014Q3
-1.0
2015Q4 2016Q2
Sources: World Economic Outlook; and IMF Staff Calculations.
2. Why has Abenomics not made more progress?
8
Developments in financial and external
conditions complicate the short-term
….and the yen has appreciated
strongly since end of 2015
Financial conditions have
tightened recently…
Japan: Financial Condition Index and Credit Cycle
Japan Exchange Rate Movements
130
Yen noncommercial traders' net long-positions (USD bn; RHS)
Exchange rate (Yen/Dollar)
VIX (1941-43=10; RHS)
50
3
125
40
2
120
6
5
Financial condition index 1/
4
Credit cycle 2/
Tighter
1
0
115
-1
110
-2
-3
1998Q1
105
2002Q4
2007Q3
2012Q2
2016Q2
Sources: Bank of Japan; Ministry of Finance; Haver Analytics; and IMF staff estimates.
1/ Estimated as the first principal component of (standardized) 3-month TIBOR,
10-year JGB yield, stock price, and NEER.
2/ Estimated as the average of the HP-filtered real total credit growth (deflated by
CPI) and total credit-to-GDP ratio.
100
30
20
10
0
95
-10
9/14/2016
8/17/2015 11/5/2015 1/24/2016 4/13/2016 7/2/2016
Sources: Bloomberg, L.P.; and IMF staff calculations.
2. Why has Abenomics not made more progress?
9
Structural impediments are weighing on
growth and wages
Demographic headwinds are
lowering potential growth…
Potential Growth
(percent)
2
…and labor market duality
is preventing wage growth
Nonregular Workers and Wage Growth
(YoY; in percent)
3
Capital Employment Hours TFP Potential Growth Rate
1.5
Change in full-time wages
Composition effect
2
Changes in part-time wages
1
1
Share of nonregular workers (right side) 1/
35
31
-1
0
29
-2
-0.5
37
33
0
0.5
(In percent of staff)
-3
27
2002Q2 2004Q2 2006Q2 2008Q2 2010Q2 2012Q2 2014Q2 2016Q2
-1
2000 2003 2006 2009 2012 2015 2018 2021 2024 2027 2030
Sources: Haver Analytics; and IMF staff estimates.
1/ Yearly Average.
2. Why has Abenomics not made more progress?
10
Profits are accumulating and the labor
market is increasingly tight
Profits are accumulating in
corporate cash holdings
And there are more vacancies
than job applicants
Vacancy Rate and Ratio of Job Openings to Applicants
(In percent, ratio)
4
3.5
Vacancy Rate
Ratio of Job Job Openings to Applicants (RHS)
3
2.0
1.8
1.6
1.4
2.5
1.2
2
1.0
1.5
0.8
1
0.5
0.6
0.4
0.2
0
0.0
1970Q1 1977Q1 1984Q1 1991Q1 1998Q1 2005Q1 2012Q1 2016Q2
Source: Haver Analytics.
2. Why has Abenomics not made more progress?
11
Aging is dampening inflation and growth
Declining neutral rate reduces
monetary policy effectiveness
Actual
Labor
Total factor
productivity
productivity
____________________________________________________
Old age
-0.851**
-1.157**
Dependency
(0.338)
(0.664)
Natural rate of interest
Net migration
Japan: Natural Rate of Interest
(In percent)
4
3.5
3
2.5
2
1.5
1
0.5
0
-0.5
-1
-1.5
1986Q2 1991Q2
Aging reduces productivity
growth
Lagged
Population growth
Control variables
Lagged dependent
Time dummy
1996Q2
2001Q2
2006Q2
2011Q2
2016Q2
Sources: Bank of Japan; Haver Analytics; and Fund staff estimates.
Note: The blue line is the actual real discount rate deflated by the inflation expectations estimated from an MA(4) model,
and the red line marks the mean posterior estimates of the natural rate of interest from a Bayesian time-varying parameter
vector autoregression (TVP-VAR) model following Lubik and Matthes (2015). The shadow areas highlight the recession
periods (defined as when the SAAR real GDP growth falls below zero for at least two consecutive quarters).
0.724*
(0.361)
2.491***
(0.691)
-0.00632
(0.0199)
0.0883**
(0.0407)
Yes
Yes
Yes
Yes
Yes
Yes
Observations
1380
1380
R squared
0.643
0.585
____________________________________________________
Robust standard errors in parenthesis
*** p<0.01; ** p<0.05; * p<0.10
2. Why has Abenomics not made more progress?
12
Monetary policy has been losing traction
Loan growth has stalled, getting
little help from NIRP
…and markets are no longer
impressed
FX market reaction on the day of BoJ meetings
(Yen/U.S. Dollar exchange rate, percent change)
3.0
2.0
1.0
0.0
-1.0
Appreciation
-2.0
-3.0
-4.0
January 29
March 15
April 28
June 15
July 28
Source: Haver
2. Why has Abenomics not made more progress?
13
Fiscal policy is contributing to uncertainty
Stop-go nature of fiscal policy
contributes to policy uncertainty
With adverse effects on
investment and consumption
2. Why has Abenomics not made more progress?
14
Japan is at a Fork in the Road
3. What are the policy options?
15
Three alternative policy packages
Under current policies all targets remain out of
reach within the timeframe set by the authorities

Comprehensive policy reload to reach
targets under current time-frames

Reset of targets and policies to prepare for

the long haul
Relaunch policies with further unorthodox
measures?
3. What are the policy options?
16
Option 1: Reload package

Higher incomes and wages with labor
contract reform

Fiscal and monetary policies for demand
support

Improved medium-term fiscal and monetary
policy frameworks

Accelerated structural reforms
3. What are the policy options?
17
Income policies to spur and coordinate
wage-price dynamics
“Comply or explain” mechanism
would help spur private wage
growth
Wage growth has lagged
productivity growth
Real wage and productivity growth
Different Measures of Earnings
(In percent, 1992-2014)
(4 quarter MA of total earnings, 2007=100)
1.6
104
1.4
102
Real wage growth
1.2
100
1.0
98
0.8
96
0.6
94
0.4
92
0.2
90
0.0
88
-0.2
0.0
0.5
1.0
1.5
Labor productivity growth
Sources: OECD, and IMF staff calculations.
3. What are the policy options?
2.0
86
2007Q1
Total Earnings (per full-time employee)
Total Earnings (per half-time employee)
Contractual Earnings (per employee)
2009Q1
2011Q1
2013Q1
2015Q1 2016Q2
Sources: Haver and IMF staff calculations
18
Fiscal expansion to close output gap but
with preannounced consolidation
Mind the rising gap in social
security
Steady and gradual on the
consumption tax
Consumption Tax Hike: Deviation in Growth from Baseline
(In percentage point)
0.1
Social Security Benefits and Contributions
(In percent of GDP)
25
25
20
20
Other
Elderly care
Health care
Pensions
Total social security contributions
Total social security benefits
0
-0.1
-0.2
15
-0.3
15
-0.4
-0.5
-0.6
-0.7
-0.8
-0.9
(i) 5-stage: 0.5 percent of GDP increase each in year 1-5 (announced in year 1)
(ii) 2-stage (pre-announced): 1 percent of GDP increase in year 1 and 1.5 percent of GDP in
year 4 (both announced in year 1)
(iii) 2-stage (ad hoc): same as in (ii) except that the second tax increase is announced in year 4
year 1
2
3
4
5
6
7
Source: IMF staff estimates.
3. What are the policy options?
8
10
10
5
5
0
0
FY1990
FY1995
FY2000
FY2005
FY2010
FY2013
Sources: National Institute of Population and Social Security Research.
19
Continued monetary accommodation
with improvements to the framework
Reverse downward drift of
inflation expectations
Strengthen communication
and clarify guidance:
Share of households with one year ahead inflation
expectation
100
5% ~ 2% ~ 5% 0% ~ 2% 0% -2% ~ 0% -5% ~ -2% ~ -5%
90
80
70
60
50
40
30
20
10
0
Aug-14
Feb-15
Aug-15
Feb-16
 Move away from a prespecified time horizon for
meeting targets
 Clarify which inflation
measures drive policy
 Publish a staff baseline
forecast together with
underlying policy
assumptions
 Discuss alternative scenarios
Aug-16
Source: Cabinet Office.
3. What are the policy options?
20
More structural reforms to boost wage
pressure and potential growth
Restore wage bargaining
power
Boost labor supply (female,
older, foreign) and deregulate
Potential Impact of Path-Breaking Structural Reforms
(Potential growth; Illustrative)
1.5
10
8
Corporate governance reform (See IMF WPs by
Aoyagi and Ganelli, 2014; Galen, 2014)
Financial sector reforms that raise risk capital as well
as SMEs restructuring (Peterson Institute, 2012)
TPP (Peterson Institute, 2012)
Product market reform (SEZs, Agricultural, Electricity)
6
Gains from ending deflation
4
Reducing labor duality (See Aoyagi and Ganelli, IMF
WP, 2013)
Foreign labor (See IMF 2013 Art IV)
0.6
2
Female labor participation (See OECD, 2015
forthcoming)
0.4
0
Potential Impacts (cumulative)
3. What are the policy options?
21
Option 2: Resetting targets and policies
3. What are the policy options?
22
Monetary policy: easy for longer while
minding stability risks
… with lurking risks to financial
stability
Limited monetary policy
room ...
Share of JGB holdings by the Bank of Japan 1/
Inter-dealer Monthly Transaction Volume 1/2/
(In percent)
100
80
70
60
Oct. 2011
Oct. 2012
Oct. 2014
Dec. 2019-QQE
61.1%
Dec. 2019-QQE2
50
QQE-2
45.6%
40
QQE
30
22.3%
20
12.1%
10
9.0%
0
600
650
700
750
800
850
Outstanding JGBs
900
950
1000
1050
Note: 1/ Uses deficit projections to forecast outstanding amount of JGBs (size
of the bubble).
Source: IMF staff calculations.
3. What are the policy options?
90
Monthly transaction volume (In trillion yen, LHS)
80
Turnover ratio (In percent, RHS)
20
18
16
70
14
60
12
50
10
40
8
30
6
20
4
10
2
0
0
Mar-05 Nov-06 Jul-08 Mar-10 Nov-11 Jul-13 Mar-15 Mar-16
Sources: Japan Securities Dealers Association; Ministry of Finance.
1/ Treasury Discount Bills, etc. are excluded from transaction volume.
2/"Turnover ratio" is calculated by dividing the transaction volume by the
outstanding amount.
23
Fiscal: steady and gradual consolidation
for longer
Moving the Philips curve
may exhaust fiscal space
…and risk fiscal confidence
shocks
Public Debt Financing in the Baseline
CPI all items less food and energy w/o VAT
effect ( YoY)
Phillips Curve
4
3
2
(In trillion yen; end of period)
A: 83Q1-95Q4 B: 96Q1-12Q3
y= 0.3x+2 y=0.1x-0.2
1800
C: 12Q4-16Q2
y=0.2x+0.5
1400
1600
1
0
-1
BOJ-long
depository institutions
GG
overseas
financing needs
BOJ-short
insurance/pension funds
others
excess reserves at BoJ's CA
1,600
1,400
1200
1,200
1000
1,000
800
800
600
600
400
400
200
200
0
-2
1,800
0
2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025
-10
-5
0
Output Gap
Sources: Cabinet Office; Bank of Japan; and IMF staff estimates.
3. What are the policy options?
5
Sources: Flow of Funds (BoJ); and IMF staff estimates.
Note: Includes both central and local governments' debt (including FLIP bonds).
The BoJ is assumed to stop increasing its JGB holdings under QQE2 at end-2017.
24
Option 3: Re-launch unorthodox policies
3. What are the policy options?
25
Risky business: net government debt in
different scenarios (percent of GDP)
Reload package
Krugman fiscal expansion
Svensson exchange rate target
Turner monetization
3. What are the policy options?
26
Risk-return trade-off remains so far in favor
of a comprehensive, balanced package
3. What are the policy options?
27
Where do policies stand?
Done
To do
Incomes policy -Minimum wage increases -Private sector wage hikes
-Tax incentives for private through comply/explain
and contract
-Larger tax incentives (and
wage increases
reform
penalties if needed)
-Public sector wage increases
-Contract reform
Fiscal Policy
Near term stimulus
-Credible medium-term
framework with gradual
consumption tax hikes
-Independent macroeconomic
and budget projections
Monetary
Policy
-Accommodative stance
-More sustainable framework
-Child and nursing care
reform
-Corporate governance
reform
Strengthen communication
framework and clarify guidance
Structural
reforms
4. What are the authorities doing?
-Labor supply measures for
women, older, and foreigners
-Productivity enhancing
deregulation
-Capital deepening
28
Thank You!
29
References
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IMF Staff Report for the 2016 Article IV Consultation with Japan:
http://www.imf.org/external/pubs/ft/scr/2016/cr16267.pdf
Selected Issues (analytical work by the IMF Japan team):
http://www.imf.org/external/pubs/cat/longres.aspx?sk=44159.0
“How to Reload Abenomics”, IMF News Article:
http://www.imf.org/en/News/Articles/2016/08/02/13/00/NA080216How-to-Reload-Abenomics
IMF blog on “Japan: Time to Load a Fourth Arrow-Wage Increases”:
https://blog-imfdirect.imf.org/2016/03/13/japan-time-to-load-afourth-arrow-wage-increases/
Davide Porcellachia ”Wage-price dynamics and structural reforms in
Japan” WP16/20
http://www.imf.org/external/pubs/cat/longres.aspx?sk=43693.0
George Kopits “The Case for an Independent Fiscal Institution in
Japan” WP16/156
http://www.imf.org/external/pubs/cat/longres.aspx?sk=44161.0
Arbatli, Botman et. al. “Reflating Japan: Time to Get
Unconventional?” WP16/157
http://www.imf.org/external/pubs/cat/longres.aspx?sk=44162.0
Ikuo Saito “Fading Ricardian Equivalence in Ageing Japan” WP
forthcoming
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