Weekly economic report

1. Page 1 of 2
Economic Commentary
QNB Economics
economics@qnb.com
15 November 2015
A progress report on Abenomics
Japan’s Q3 GDP will be released this week.
Analysts expect data to show that the
economy shrank by 0.3% on an annualised
basis. If their expectations materialise, Japan
would have fallen into a technical recession,
defined as two consecutive quarters of
negative growth. Beyond quarter to quarter
numbers, it is important to consider the big
picture. When Shinzo Abe assumed the prime
minister’s office in December 2012, the
Japanese economy was facing a number of
challenges. First, it was stuck in a seemingly
permanent state of deflation, which was
damaging to investment and growth. Second,
the fiscal balances were stretched as public
debt was almost 240% of GDP. And third, the
economy was facing structural challenges
from the aging and declining population. Abe
came with a comprehensive plan based on
three “arrows” to tackle these challenges. How
has he fared in the last three years?
The first arrow is centred on active and
aggressive monetary policy to solve the
problem of deflation. Deflation increases the
real rate of interest, making it more
burdensome to borrow and invest. It also hurts
consumption, which is postponed in
anticipation of lower prices in the future. The
overall effect is lower aggregate demand and
growth.
Shortly after Abe took office, he changed the
leadership at the central bank, the Bank of
Japan. The Bank of Japan then embarked on a
large scale open-ended qualitative and
quantitative easing (QQE) programme in April
2013, which was then significantly expanded
in October 2014 in order to try and achieve the
2% inflation target. While Japan is still some
way from its inflation target, the country has
clearly exited the state of deflation. Core
consumer price inflation (which excludes
volatile items such as food and energy) was
0.9% in September, and has been consistently
out of the negative territory since the summer
of 2013.
Japan Consumer Price Inflation (Excluding
Food and Energy)
(year-on-year percentage change)
Sources: Ministry of Internal Affairs and Communications and
QNB Economics
The second arrow aims at addressing the
problem of high public debt in the medium
term while providing stimulus in the short
term, when necessary. Part of the problem is
the low taxation rates in Japan, especially
consumption tax. Consumption tax (a value-
added tax) in Japan was only 5% in early 2014,
one of the lowest in the world, much lower
than the European average of around 20%. The
International Monetary Fund estimates that
consumption tax needs to rise to around 15%
to contribute to a more sustainable path for
public debt. Abe’s strategy to address this was
to combine permanent increases in
consumption tax (to make public finance
sustainable) with temporary fiscal stimulus (to
boost demand in the short run).
The first increase in consumption tax (from
5% to 8%) occurred in April 2014, and its
-2.0%
-1.0%
0.0%
1.0%
2.0%
3.0%
2000 2003 2006 2009 2012 2015
Bank of Japan's QQEprogramme
Abe's election
Consumption tax hike

2. Page 2 of 2
Economic Commentary
QNB Economics
economics@qnb.com
15 November 2015
impact was dramatic. Real GDP declined by
7.6% on an annualised rate in Q2-2014 and
1.1% in Q3-2014. This prompted Abe to
postpone the next tax hike (to 10%), which
was originally planned in October 2014, to
April 2017. The government now seems
determined to implement this round of tax
increase to avoid larger hikes in the future. On
this arrow, despite the government’s initial
steps to improve the fiscal arithmetics, there is
still some way to go.
The third arrow of Abenomics is concerned
with improving the supply capacity of the
economy. The declining and aging population
have led to lower potential growth. Official
Japanese sources estimate that potential GDP
growth has declined from 4.9% in the late
1980s to only 0.5% today. Abe sought to tackle
this problem through numerous structural
reforms to improve competition and
productivity in the labour market, agricultural
and health sectors. Structural changes, by
nature, take time to implement and it could
take years before they start bearing fruit. But
one area of reform is already making progress:
the higher participation of women in the
labour force to counteract the demographic
decline. Through a number of financial and
non-financial incentives, Abe succeeded in
increasing the number of women in the labour
force by nearly half a million in around three
years. This is significant in a country with a
total labour force of around 66 million.
Overall, the three arrows of Abenomics have
been travelling at different speeds. Beyond the
importance of Japan as one of the world’s
largest economies, Abenomics is an important
case study on how to tackle problems that
many countries are facing or are expected to
face in the near future. Many countries, such
as those in the Euro Area, are experiencing the
risk of deflation, want to implement fiscal
consolidation without creating economic
depression and face the challenge of declining
productivity and a smaller and older
population. The Abenomics experiment should
be closely monitored by the rest of the world.
QNB Economics Team:
Ziad Daoud*
Acting Head of Economics
+974-4453-4642
Rory Fyfe
Senior Economist
+974-4453-4643
Ehsan Khoman
Economist
+974-4453-4423
Hamda Al-Thani
Economist
+974-4453-4642
Rim Mesraoua
Economist – Trainee
+974-4453-4642
* Corresponding author
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