Rising Japanese Investment Abroad
Weakens Yen, Deepens Economic Imbalances
By HENNY SENDER
July 30, 2007; Page A2
TOKYO -- Japan's financial-services companies are trying to coax the country's prodigious savers to think globally, urging them to invest their nest eggs abroad, where they can expect to reap much higher returns.
After years of extraordinary low interest rates at home, and with a large percentage of Japan's population looking toward retirement, that advice is starting to take hold. But while investing abroad makes sense for the Japanese individually, the resulting outflow of cash had been pummeling the already-weak yen -- which only began strengthening earlier this month -- and worsening imbalances in the nation's economy.
As yet, only 3.6% of Japan's $13 trillion in personal savings is invested abroad, while more than half is held in cash and domestic bank deposits. [By contrast, U.S. households keep less than 13% of their savings in cash and deposits.] With the Bank of Japan holding its key rate at 0.5%, interest paid on Japanese deposits is low, so those assets earn almost nothing.
That is largely why the country's households have become important players in the so-called yen carry trade. That involves either buying mutual funds that invest abroad or borrowing yen at Japan's low interest rates and selling them to acquire investments denominated in higher-yielding currencies such as Australian and New Zealand dollars.
As a result, investment trusts, the Japanese equivalent of mutual funds, are recording record inflows. Investment trust foreign assets rose by 1.7 trillion yen ($14.31 billion) in April to 32.3 trillion -- the largest one-month increase since the statistics were first compiled back in 1981.
"This is the self-defense for Japanese households," says Masaaki Kanno, chief Japan economist for J.P. Morgan Securities in Tokyo. "They are moving their money offshore as a vote against the Japanese system of low returns."
Mr. Kanno worries this growing exodus of funds will aggravate Japan's economic imbalances, perpetuating its overdependence on exports, in part by weakening purchasing at home. "A side effect of low interest rates and the outflow of investment funds is to send wrong signals to the market about the value of the yen," he says. "Return on investment is so low, we are falling into a deeper trap."
Here is how that "trap" has evolved. In recent years, as Japan has shaken off an economic slump that lasted more than a decade, the Bank of Japan has kept interest rates low to encourage economic growth. But low rates crimp the returns that Japan's savers and others can earn on bank accounts and other Japanese assets. That, in turn, keeps the value of the yen weak relative to other major currencies, which encourages exports.
Low returns on savings and declines in wages, which account for 90% of household income, have caused Japan's aging population worry about having enough money for retirement, keeping domestic demand weak.
Consumer spending accounts for just 56% of Japan's gross domestic product, according to data from Morgan Stanley. Not only is that well below the 71% in the U.S., it is the same as India, a much less-developed economy. This tepid domestic demand leaves exports as the Japanese economy's main growth engine.
As Japanese savers venture abroad to invest, the outflow of cash is putting even more pressure on the yen, though in recent days the dollar's weakness has arrested the Japanese currency's plunging value. But the yen continues to weaken against other Asian currencies, like the Korean won. That puts an even stronger tailwind behind Japanese exporters, making them an even bigger contributor to the country's economic growth but also setting the stage for potential trade frictions and other problems.
The yen's weakness has encouraged some Japanese manufacturers to expand output capacity. Eventually, when the yen recovers, much of that new capacity may be idled, Mr. Kanno fears.
The Bank of Japan is wary about raising rates with little sign of inflation. Also, the central bank is haunted by the memory of erring several years ago when it raised rates prematurely, chilling the economy.
Breaking out of the weak-yen trap will require Japan's government and its consumers to change their habits.
Tokyo could help assuage nervousness about retirement by shoring up the country's pension system, which has fewer working-age people to support it. One way might be for the government to seek higher-yielding investments for Japan's foreign-reserve and pension-fund assets, rather than relying mostly on safe but low-yielding U.S. Treasurys and Japanese government bonds. Those assets now earn as little as one-fifth of the returns of large U.S. public pension funds, such as the California Public Employees Retirement System, according to one senior official at Japan's Financial Services Agency.
If the Japanese economy, which expanded a modest 2.2% last year, is to grow enough to support higher wages and investment returns, Japanese consumers will have to do their part by relaxing the grip on their pocketbooks. Creating a more balanced economy will require a healthy increase in domestic demand, a feat export powerhouse China is also trying to pull off. Of course, the Chinese, many of whom lack the rice cookers and other consumer gadgets taken for granted in Japan, have more room to expand their consumption.
For China, the question is whether the country can grow rich before its population grows old. For Japan, which is already rich, the challenge is to persuade its citizens that in getting older they aren't doomed to get poorer.
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