CFO Insights 2020 December

The pandemic threatens consumers’ recovery

Although consumer spending has improved since the first half of the year, real household spending was still 7.8% lower in Q3 compared to a year earlier (figure 1).¹

Some of the weakness is due to last year’s consumption tax hike—consumers increased their spending, especially on big-ticket items, in 2019 Q3 to avoid the October tax increase, making year-ago comparisons look overly pessimistic. Still, household spending on durable goods remained weak, with spending levels around where they were more than four years ago. Plus, spending on services and semi-durable goods struggled to rebound.

Despite relatively low infection rates and government subsidies on domestic travel, consumers remain cautious. Indeed, the number of new COVID-19 cases per capita in Japan was just 2–3% of the number in the United States or the European Union in mid-November.²

Unfortunately, the pandemic in Japan has worsened notably since the beginning of October, with the number of new confirmed cases reaching a record high in November as the country embarked on its third wave of infections. The surge in cases threatens to upend the ongoing recovery in household spending.

As of mid-November, there had not been a discernable change in national mobility near retail and recreation establishments, which is tied to consumer spending. However, mobility has started to dip lower in Hokkaido where the outbreak has been particularly bad.³ Hokkaido policymakers have asked residents of its largest city, Sapporo, to avoid nonessential activity in an effort to curb the spread of the virus. Other prefectures are considering implementing similar measures.⁴ As local restrictions go into place, Japan may ultimately see a drop in mobility and spending throughout much of the country.

The national government is simultaneously encouraging more services consumption yet preparing for a drop in such spending. For example, it is maintaining its subsidy programs for dining out and domestic travel despite the surge in COVID-19 cases. In addition, travel restrictions have been loosened for visitors coming from countries with low infection rates, such as Australia, China, Singapore, and South Korea.⁵

The efficacy of such programs remains in doubt as Google predicts daily new cases will rise to a record 2,400 by December 12, up from about 1,300 per day in mid-November.⁶

As more prefectures prepare to announce additional restrictions, Prime Minister Yoshihide Suga announced that the government would set aside 50 billion yen for businesses adversely affected by local measures to cut hours and limit capacity.⁷ Suga’s cabinet is also putting together another stimulus package that ruling party lawmakers said should be between 10 and 30 trillion yen.⁸ These funds are meant to hold over affected businesses and their workers until a vaccine is made widely available.

Strong external demand may wane

On a positive note, a growing trade surplus accounted for more than half of Japan’s Q3 rebound in real GDP. Exports reversed two consecutive quarters of declines while imports fell further. Japan’s trade balance is supporting the economy as consumer and business spending struggles to rebound strongly.¹⁶ Japan’s exporters may get an additional boost now that the Regional Comprehensive Economic Partnership, a free trade deal between ASEAN countries, Japan, China, Australia, New Zealand, and South Korea, was inked on November 15.¹⁷ One estimate suggests Japan’s national income could increase 1% by 2030 under the deal, though the gains would be incremental as tariff reductions are phased in gradually.¹⁸ Japan is also providing subsidies to companies that will build factories in Japan or Southeast Asia to diversify production away from China. It could also support Japanese exports.¹⁹

However, Japanese exports face two serious headwinds. The most imminent headwind is from the resurgence of COVID-19 in the United States and Europe. Exports to the United States, Japan’s second-largest export market, were 0.6% higher than a year earlier in September (figure 2). Although that number may sound small, it is a dramatic improvement from the –21.3% year-over-year rate in August and the –50.6% rate posted in May.²⁰ With US infection rates reaching new highs and policymakers restricting economic activity, US demand for Japanese exports could fall in the coming months. The same is true for Europe, though it is a smaller export market for Japan.

The second headwind comes from China. Exports to China have been exceptionally strong, thanks in part to China’s ability to keep infection rates low and to rebound to prepandemic levels of output. Japan’s exports to China in September were up 14.0% from a year earlier.²¹ China has also been stockpiling semiconductors and related machinery as it attempts to build its own chips amid tensions with the United States.²² That has boosted demand for semiconductors machinery from Japan that accounted for nearly 20% of the year-over-year rise in exports to China.²³ Strong semiconductor sales to South Korea and Taiwan may also ultimately be headed to China for stockpiling. Although China’s demand for Japanese technology should remain strong, it is likely to wane once inventories are deemed sufficiently large.

Japan’s relatively low infection rates and ample government support should foster a relatively strong recovery. However, already-cautious consumers may pull back on their spending as infection rates move higher. Plus, businesses are holding off on major expenditures until a more robust recovery is evident. Meanwhile, the rebound in external demand that has underpinned the recovery faces its own set of challenges ahead.