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- [00:01]
A
Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global chief Economist and head of Macro Research. This is part two of our podcast from the Japan Summit. It's Friday, May 22nd at 8am in Tokyo. I might stick with equities for just a minute and show just to dig deeper into the equity market. Jonathan expressed some of the bullishness. Anything you want to elaborate on where the real strong conviction on this positive view about Japanese equities is coming from? And then just as a warning I'm going to come back to you and ask if you're wrong. Where could you be wrong? Because again I think where we add value most to clients is not just giving a clear view but also pressure testing that view.
- [00:47]
B
Our constructive view on Japan every day comes down to one simple point. Three structural changes are still continuing. So the first is shifting macro environment. The combination of stable inflation and wage growth is a kind of phenomenon we had not seen at least in my lifetime. It changes corporates and households behavior especially in terms of balance sheet management. And secondly the corporate profit improvements. We do not see it as critical recovery, we see it as a structural change. As in the past Japan corporates are heavily relied on cost cutting amid a deflationary environment. But today price pass through is improving and Japan corporates becoming better positioned in growth profit in a nominal growth environment. The third is corporate governance reform. Awareness of the capital efficiency has clearly increased. We continue to see share buybacks, dividends increase and a portfolio restructuring as well as. And on top of that the Takaichi administration has made gross investment and crashes management investment as well. Of course the lease and middle association is a source of noise but structurally the supporting factor for Japan Audi's Segura bull market, which is a view Jonathan has held for a very long time has actually becoming stronger. But let me say that if I'm wrong, maybe I should be more bullish as in fact the two key drivers are here for if we assume the bulk case scenario on Japan equities so one key driver should be the upside come from the investors constructive view on the Japan fiscal efficiency and on a micro level the core play behavior changing faster than market expects. If we assume the recent rising long term yields it reflect the concern to other Japan fiscal position and the BOJ behind the curve. It would weigh on the Japan equity valuation because it raises cost of capital and it weighs on the Japan equity valuation. But on the other hand, Japanese government will disclose its basic policy in June and if it could include a credible plan to improve Japan fiscal positions perhaps under Japan version of Dodge which is led by Financial Minister Katayama San I think it could alleviate the excessive concern toward Japan's fiscal position and it lower the cost of capital on Japan equities in a micro level. The corporate behavior is already changing as I mentioned but there's still plenty of space for Japan corporates to utilize non cash generating assets such as cash and deposit which is equivalent to 60% of GDP. The ratio is far higher than our global peers. So if Japan corporates move further to capital efficiency or portfolio restructuring or use of excess capital, I think there should be additional room for Japan equity market to literate higher.
- [04:05]
A
All right, so if you're wrong, it's insufficient bullishness. That's a great place to be. So Koichi, Jonathan and Sho are bullish on equities and so do you expect big shift in capital flows and would that drive further appreciation of the currency? How do you think about the global investors view of Japan and what it means for capital flows on the one hand and the value of the currency on the other hand?
- [04:32]
C
As for the capital flows, I think under these refreshment regimes, what's the notable change among the Japanese financials that they are shifting away from the fixed income products? I mean like JGBs given the current attractive years, you may be wondering why the banking sectors buy the JGBs but according to the recent disclosures, they have not purchased the JGBS much because their lending activity performed very well. So as far as their lending activity have been performed well, they have no incentive to make money in their securities investment. Their lending activities have accelerated thanks to the corporate capex investment to improve the productivity amidst the labor shortages in Japan. Once the banking sector starts to see some slowdown or some symptom of of the lending activity to slow down in such a case they are quickly shifted to the securities investment and the JG market will change the world. But so far you know, like lending growth accelerated much. You know the April lending growth is around 6% on the year on year base very strong. So I think the banking sector still not have incentive to buy the JGBs. As for their rifles, rifles cases much more serious I think because of the younger ages shifting towards the equities to defend the asset Particularly under their new NISA scheme was launched in 2024. The younger people basically allocate their assets to their equities rather than their saving type of the products which means that the rifles are struggling to gather the new monies and this means that there are Demand for the longer JGB to shrink and the Japan Rifles already filled the duration mismatch by 2023 to prepare for the new regulation starting from these fiscal years. Unfortunately they already finished the duration mismatch type of operation by 2023 but there is going to up from 2024 thanks to the BoJ's normalization so under such conditions they are now struggling to the high market loss on their long end GBS and some like Lifords are now facing to the impairment loss accounting that actually becomes rifads net seller of the longer regs rather than the the bias.
- [07:18]
A
Okay, super helpful. Okay, we focused a lot on near term developments the energy shock first quarter GDP but we can think about a longer term growth scenario and there I think AI comes in at times Chet and you've talked about the near term super cycle and I think there's a near term aggregate demand side to AI but over the longer term maybe it's more supply When I think about where growth is going though I also think about shifts in the strategy for policy so maybe Yamaguchi san, you can talk talk to me a bit on your take of Prime Minister Takechi's policies. What do we think is likely to get announced when how do you see it affecting the long term growth outlook for Japan?
- [08:02]
D
Japanese government publishes growth Strategy Report and the basic policy on fiscal management or honey but policy in June every year But I think this year's documents will be pretty important because these are the first documents under the Takaichi administration and these documents will set the direction of economic policy by Takai Sanae Takaichi or Sanae Economics I think compared with Abenomics, Takai san focuses more on the supply side issues supply domestic investment while Abenomics focus more on the exit from deflation focusing on demand side policy particularly monetary easing. In the growth strategy report the focus will be strategic investment in 17 strategic areas including AI, especially AI, robotics, semiconductors, defense and space, cybersecurity and content industry and so on. Another important point of Sinoinomics is there's overlap between these strategic investment areas and national securities. Government will also update its defense strategy by the end of this year and there will be an increase in the defence budget target. The focus will be a lot on you know I think dual use technologies and also you know, resilience of supply chains going ahead. Another important point is that I think there will be a change in the budget formation process. I think under deflation there's effectively, you know, cap on non Social Security spending and but I think this government will likely allocate budget, you know, for multi, you know, investment. So I think the budget process will be more flexible and they put more emphasis on the initial budget rather than the supplementary budget. So I think these, these documents would be pretty, yes, important, yes. To, to monitor going ahead. But overall, I think the government, you know, yes, they do care about the market conditions. They directly avoid massive expansion, but I think a slight expansion, especially in the area of strategic investment, is likely to happen.
- [10:24]
A
Very, very helpful. All right, that's the end of the panel. Thank you very much to my colleagues. And this is where I have to shift back into podcast mode to say thank you for listening. And if you enjoy thoughts on the market, please share it with a colleague or friend today. Thank you very much, everybody.
- [10:47]
E
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