by Kit Dawnay
Elections for Japan’s upper house of Japan’s Diet may have major implications for East Asia’s economic prospects and balance of security. [Editor’s Note: This essay was originally accepted in early July].
The polls on 21 July for the House of Councillors will clarify whether the administration of Shinzo Abe, which took office in December 2012, has popular support. Abe needs 72 seats to secure a Liberal Democrat Party (LDP) majority, and he may succeed; the LDP won in elections for the Tokyo assembly and the prime minister himself has 70% approval ratings.
Electoral victory would demonstrate popular endorsement of Abe’s two-pronged vision of how to rescue Japan from its malaise, by means of a programme of economic reforms, nicknamed “Abenomics”, and through a range of constitutional and military reforms.
The economic dimension has received most attention so far – not least as Japan faces a raft of challenges. The public debt to GDP ratio may exceed 245% this year according to the International Monetary Fund (IMF), the greying of the economy is making Japan’s pension and health care costs unaffordable, and regulation stifles growth.
By way of a solution, Abenomics comprises three key “arrows: an easing of money supply by the Bank of Japan, now targeting inflation of 2%; a US$110 fiscal boost; and a less impressive menu of structural reforms, which could ease supply side constraints. After reigniting growth, the government plans to raise the consumption tax, so relying on growth as well as repayment of principal to reduce Japan’s vast debt burden.
This approach recalls that of Takahashi Korekiyo, finance minister and prime minister in the 1930s. Takahashi lifted Japan out of the post-1929 slump by relying on a mixture of military spending and government investment, prior to his assassination by military officers in 1936.
So far, Abenomics has proven successful, with a 75% stock market increase from November 2012 to May 2013 and an uptick in consumer spending. Japanese exports have risen as the yen has fallen, some 25% against the US dollar since December, as well as against the Korean won and Chinese yuan. Japanese goods now have a significant cost advantage against major competitors.
Needless to say, other East Asian states have branded this devaluation as “beggar-thy-neighbour” in nature. South Korea and Taiwan are suffering; Korean carmaker Hyundai reported a decline in profits of 14.9% in the first quarter of 2013, while steelmaker POSCO’s profits slipped 54% in the same period (although attributing these falls directly to the yen is debatable).
Of great importance, though, is that the devaluation comes at a sensitive moment for China, as its economy undergoes a tricky transition, with growth declining from over 10% to about 7.5%. The devaluation is especially awkward because China’s export industry has suffered since the 2008 financial crisis; the trade surplus has slipped from about 5% of GDP in 2010 to a projected 2% in 2013. China’s cost advantage is also eroding rapidly, as the country reaches the “Lewis tipping point”, at which point a labour surplus diminishes and wages rise.
The stalling of the export engine has structural ramifications for China because of years of over-investment. China’s municipal governments invested in a bid to engender growth after the 2008 economic crisis. The result has been a glut of overcapacity. China now runs an investment rate equivalent to over 48% of GDP, but at diminishing rates of return; in 2008, US$1 of investment produced roughly US$1 of output, but by 2012 US$3 to US$4 of investment was necessary to receive US$1 of output. The banks which lent this money face a plethora of bad loans, as the new toll roads or ports fail to yield the projected revenues.
In response, Li Keqiang, China’s premier, has announced reforms of the financial and regulatory regimes. Chinese Communist Party (CCP) General Secretary Xi Jinping has also launched a campaign to curtail bureaucratic waste and corruption. The difficulty, though, is that China’s political economy, made up of an almost feudal patchwork of baronies, is inherently hard to reform. Different forces counterbalance, and block, one another within the administrative apparatus. The yen just adds more strain to a creaking system.
The second element of Abe’s programme – plans for constitutional and military reforms – will add to Beijing’s distemper. Nationalist provocations have multiplied since Abe’s inauguration. Examples include: a visit by LDP lawmakers, including finance minister Taro Aso, to the controversial Yasukuni Shrine; a photograph of Abe in a Japanese air force jet emblazoned with 731, the number of Japan’s Second World War biological warfare unit which experimented on Chinese civilians; his wearing of military uniform as prime minister, for the first time since 1945; requested revisions to formal apologies for war time atrocities; and the shouting of “banzai” in honour of Japan’s emperor.
Abe’s government has also mooted the alteration of Article 96 of the (American drafted) constitution, to reduce a requirement of a two thirds majority of both houses for change to the charter. This reform is not in itself controversial, but Abe appears to plan subsequent amendments to Article 9, under which Japan renounces war. The government also in January 2012 announced the first increase in Japanese military spending in 11 years, by 0.8% to JPY4.68 trillion (USD51.7 billion).
This focus on security has its logic. China’s military capacity has increased over the last decade. Beijing has also acted ever more assertively in territorial disputes in the East China Sea. A new high emerged in May when two academics suggested in The People’s Daily that China had a right to the Ryukyu island chain, including Okinawa, by virtue of the Ryukyu Kingdom’s provision of tribute to China prior to Japan’s formal annexation in the 1870s; Beijing did, though, back away from this assertion in June. Tokyo is also responding to longstanding requests from Washington to increase its contribution to regional security, not least as budgetary shortfalls trim US capacity.
Furthermore, Japan’s Self Defence Forces already field one of the strongest navies in the world, and these changes amount to little more than symbolism. Yet symbolism matters, especially in Confucian Asia, with its tradition of ritual. Perceptions of Japanese militarism are also very much alive in China, where books and television dramas play out old grievances.
An endorsement of Abe’s policies in the upper house polls, then, has every prospect of damaging relations with China, perhaps severely. Abenomics may revitalise Japan’s economy, but the devaluation of the yen is putting serious pressure on a Chinese economy struggling to change tempo. The planned constitutional reforms, increases in military spending, and provocative rhetoric only add to bad feeling. Anger may play out in attacks on Japanese investment or the implementation of protectionist policies, undermining the “hot economics, cold politics” which has hitherto defined bilateral relations.
It is possible that Abe may curtail the nationalist rhetoric after the elections; but it is just as possible that success will free his government of perceived constraints. In the interim, relations between East Asia’s two big powers look increasingly difficult to manage.
About the Author: Kit Dawnay is an independent political and foreign affairs analyst based in Hong Kong. He can be contacted at firstname.lastname@example.org.
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