SEB's first take on the Japanese earthquake

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SEB’s experts believe effects on financial markets and the economy will be short lived while nuclear problems pose a big risk.

The economists have assembled a chart package on possible economic effects from the Japanese earth quake. Among others they have included charts on growth and financial markets after Kobe quake, hurricane Katrina 2005 and the 9-11 terror attacks 2001. There are also some charts on the Japanese energy sector, implications for oil prices and Japanese holdings of US bonds.

Their main scenario remains that the impact on growth will be limited and that central banks will hike according to plans. They also discuss a risk scenario for growth and central banks if the nuclear damage should deteriorate.

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SEB's first take on the Japanese earthquake

  1. 1. First take on the Japanese earthquake Main scenario: Short lived effects on financial markets and economy but nuclear problems poses a big risk 1
  2. 2. Main scenario: Normalhurricane/earthquake dynamics after all Kobe, 9-11 and Katrina did not cause permanent effects on production and financial markets. GDP decline in q1 and possibly q2 due to humanitarian disaster shortage of electricity and other disturbances. GDP will decline by 0.5-1%-points in 2011 compare to earlier forecast, but thereafter increase by 1-1.5%-points more in 2012 Compared to Kobe, GDP affected for a somewhat longer period to due to problems with energy supply Upward pressure on oil prices in a medium time perspective. Lower supply of nuclear electricity in Japan and delayed nuclear investments in other countries. Equities. Short term: Further downside potential Japan 10%, US and Europe 5%. 3-6 months back to pre crisis levels Fixed Income: Bond yields further down in the short run, but return to pre crisis level in line with equities. ECB and Riksbank to hike in line with previous plan. Currencies. Temporary flight to safe havens JPY, CHF, USD. BOJ to prevent USD/JPY to move below 80. SEK recovers within 1-3 months. 2
  3. 3. Risk scenario: Severe nuclear damage Zone with radiation contamination becomes significantly larger causing evacuation of population and incapacitating more production plants Financial market turbulence continues, large repatriation to Japan, coordinated central bank action to support confidence and liquidity GDP in Japan declines by 2-3% in 2011 some direct impact on growth and demand in emerging markets and the west. Japan important part of global supply chains. OECD growth 0.5-1%-points lower in 2011 Shift from nuclear power in other countries and continued political turbulence in the Middle East leads to another large upward shift in the oil price Equities. Continues to decline another ~20% in Japan, ~10% in other countries Fixed Income: Bond yields further down, rate hikes postponed in the Euro-zone, Riksbank hikes only at two more meetings in 2011 Currencies. Repatriation flows strengthen JPY, flight to safe havens CHF, USD. Krona continues to weaken. 3
  4. 4. Scenarios for Japanese GDP Japans catastrophe: GDP scenarios Index: 2000:1=100115 115113 113111 111109 109107 107105 105103 103101 101 99 99 97 97 95 95 93 93 00 01 02 03 04 05 06 07 08 09 10 11 12 Severe nuclear disaster Pre-catastrophe forecast Normal hurricane recovery Source: Cabinet Office, SEB 4
  5. 5. Possible impact on oil prices: lower GDPvs increased demand for electricityproduction After Kobe oil consumption was reduced for 2 months, this time it will probably be longer 2-4 months? Failure in nuclear plants means that Japan is likely to increase imports of oil for electricity production Japan is likely to increase imports of liquefied gas (LNG) (possibly by as much as 5 times). The effects on prices from this is, however, likely to be limited as supply is plentiful Destroyed refining capacity in Japan will raise crack spreads, especially in Asia Increased uncertainty regarding nuclear power will effect alternative fuels. Higher prices on coal, natural gas and emission rights. Electricity futures have increased by 6% in Germany, Sweden by 5% We expect downward effects to dominate in the short-term, but upward pressure in the medium term 5
  6. 6. The Chernobyl power plant exclusionzone has a radius of 30km Affected area much larger Radiation levels varied locally due to wind and rain Increased radiation in an area with a radius of ~200-300km Evacuated zone in Japan, 20km, (stay indoor zone 30km) Distance to Tokyo 200-250km 6
  7. 7. Contaminated areas at Chernobyl 7
  8. 8. Growth and financial markets afternatural disasters etc.In order to assess the impact on the business cycle andfinancial markets from the Japanese earthquake we haveassembled how data reacted after the Kobe earth quake in1995, the 9-11 WTC terror attacks in 2001, and the cycloneKatrina’ devastation of New Orleans in 2005.Main conclusion are:– After an initial reaction it is in most cases difficult to discern the effect on growth from the underlying trend.– Impact on financial markets most often short-lived– Natural disasters seem to have affected timing for central bank’s actions, but not underlying trend 8
  9. 9. Material damage after catastrophes Crude estimates – difficult to decide what costs should be included Kobe: Yen 10trn = 2.5% of GDP 9-11: USD 10-20bnbn = 0.1-0.2% of GDP Katrina: USD 81bn = 0.6% of GDP Earth quake 2011 (very wide range of estimates exists) Yen 10- 15trn? = 2-3% of GDP 9
  10. 10. Minor impact on growth in Japan after Kobe US growth and confidence turned lower, but Tequila crises (currency crises in Mexico) most likely driving factor US: ISM 60.0 Kobe 60.0 57.5 57.5 55.0 55.0Percent Percent 52.5 52.5 50.0 50.0 47.5 47.5 45.0 45.0 jan maj sep jan maj sep jan maj sep 94 95 96 Manufacturing 10
  11. 11. Interest rates after Kobe Quake Yields turning lower, but other reasons important for lower rates May possibly have affected rate cuts in Japan Government 10 Year yield13 Kobe quake of 1995 13 Central bank rates12 12 7 711 11 6 610 10 5 59 98 8 4 47 7 3 36 6 2 25 5 1 14 43 3 0 02 2 -1 -1Jan Mar May Jul Sep Nov Jan Mar May Jul Sep Nov 94 95 96 97 94 95 Japan USA Sweden Germany FED ECB Japan 11
  12. 12. Nuclear risks make all the differenceIndex Index 12
  13. 13. Japanese stock market declined afterKobe In a long time downward trend Small impact on other countries Stock markets 110 110 Kobe quake 105 105 Index 1995-01-16 = 100 100 100 95 95 90 90 85 85 80 80 75 75 January February March April 95 Nikkei 225 EMU STOXX SWE (AFGX) Dow Jones 13
  14. 14. Short lived impact on growth andsentiment after 9-11 Economy was already in a recession Sentiment at a trough shortly after 9-11 14
  15. 15. Coordinated central bank cuts after 9-11 Economies where in a downturn already in the beginning of 2001 9-11 affected timing and size of rate cuts Government 10 Year yield Central bank rates6.0 6.0 7 75.5 5.5 9-11 6 65.0 5.04.5 4.5 5 54.0 4.0 4 43.5 9-11 3.5 3 33.0 3.02.5 2.5 2 22.0 2.0 1 11.5 1.5 0 01.0 1.00.5 0.5 -1 -1 jan mar maj jul sep nov jan mar maj jul sep nov 00 01 02 03 01 02 Japan USA Sweden Germany FED ECB Japan 15
  16. 16. Stocks remained in bear market foranother 1-1.5 years after 9-11 Stock markets 160 160 9-11 150 150 140 140 Index 1995-01-16 = 100 130 130 120 120 110 110 100 100 90 90 80 80 70 70 60 60 jan mar maj jul sep nov jan mar maj jul sep nov 01 02 Nikkei 225 EMU STOXX SWE (AFGX) Dow Jones 16
  17. 17. US economy in slowdown phase beforeKatrina Mixed impact on sentiment US: ISM Katrina 61 61 59 59 57 57 55 55 53 53 51 51 49 49 04 05 06 07 Manufacturing Non-manufacturing 17
  18. 18. US rate tightening cycle not affected by KatrinaPercent 18
  19. 19. Stock markets continued to rise afterKatrina Stock markets 150 150 Katrina 140 140 130 130 120 120 110 110 100 100 90 90 80 80 jan mar maj jul sep nov jan mar maj jul sep nov 05 06 Nikkei 225 EMU STOXX SWE (AFGX) Dow Jones 19
  20. 20. Japanese nuclear problems uncertainfactor Situation probably has to be resolved for financial markets turbulence to subside 10 out of ~50 reactors down, nuclear power 30% of electricity production => ~6% of total capacity knocked out. Risk for shortage in some regions, which could last longer periods 20
  21. 21. Proportion of total foreign holdings, % Treasury securities Japan second largest holder of US Proportion of total foreign holdings, %21
  22. 22. Japanese Net purchases of Treasury bondsand notes dropped to negative numbers inH2 1995. US TIC: Purchase and sales of treasury bonds and notes by Japan 55 7 USD (billions) 45 4 billions 35 1 25 -2 15 -5 94 95 96 Purchases (LHS) Sales (LHS) Japan, Net purchases [ma 3] (RHS) 22

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