Japan should raise interest rates - but it probably won't
Japan’s Nikkei 225 index is up by less than 2% so far this year thanks to jitters over the strength of Japan’s recovery. Consumer prices excluding food have slipped back into negative territory and consumers have yet to open their wallets. Given this backdrop, most observers, in line with the orthodox view that higher interest rates curb spending and borrowing, say that to avoid choking off growth, the Bank of Japan should not raise rates beyond 0.5% until consumption recovers.
But some reckon higher rates should stimulate rather than depress consumption. As The Economist notes, debtors gain from low interest rates, but savers lose and Japanese households have the biggest savings stash compared with their disposable income among all developed economies. Their net financial assets, excluding equities, amount to 3.2 times disposable income. Meanwhile, half of Japanese households’ gross assets are in deposits earning adjustable rates of income, compared with just 25% of their far smaller liabilities.
According to Brian Reading of Lombard Street Research, households’ net financial assets with floating rates are worth more than twice disposable income. The bottom line: since 1993, extremely low rates have cost households ´197trn in lost income (a figure equivalent to 65% of annual income). No wonder spending has been depressed, says The Economist. ‘Businesses have been the big winners’, notes Reading, but with their balance sheets restored they now need robust consumption, not cheap money.
Reading suggests hiking rates to 3.5%, which he thinks would boost consumer spending by about 3% and GDP by about 2%. Domestic demand would then take over as the key driver of growth. But this contrarian call is falling on deaf ears. ‘The Bank of Japan is unlikely to have the nerve to test out the theory,’ says The Economist.
