In one of those strange coincidences that life so often thows our way Mark has just posted on the worrying plight of Oregon's wild fish (and incidentally I don't think we economists should make any apology for expressing strong opinions on such topics, au contraire we should make a point of doing so, but I guess it's a bit easier to say this sitting over here in Europe).
But no, this post isn't about fish, or even about something fishy, it is about an endangered species though: the Japanese. This is a bit strong, you will say. Well I don't know how else you can describe a group of people who sustain a TFR of 1.3 and who seem totally resistant to inward-migration (Japan last year was a net exporter of migrants). With every generation the population of Japan is set to reduce, and in a relativey small and finite number of generations it could become very small indeed.
Oh, I know, I know, we can't see that far into the future and all our demographic projections tend to incorporate important levels of uncertainty (although over a mid term window of 10 to 30 years theyse are much more secure than, say, GDP projections, which should be a chastening thought. Since we know who is already born we can see certain structural demographic features pretty clearly over a significant time horizon). Anyway this is not the issue here. What I want to talk about today is not how Japan might be 50 years from now, but how it is today.
Earlier in the week Skeptical Speculator picked up on the fact that Japanese growth wasn't looking so promising as many of the forecasts had been suggesting . The immediate source of SS's concern was a report in Bloomberg which indicated that "Japan's industrial production fell twice as much as economists expected in July, adding to evidence that growth may slow in the world's second-largest economy".
In fact production fell a seasonally adjusted 1.1 per cent from June. Part of the explanation seems to be that Japanese manufacturers are cutting inventories as export orders fall in an environment where record oil prices are threatening to slow global economic growth. But this is only part of the story.
The 'great hope' for the sustained recovery of the Japanese economy (as indeed it is for the German one) lies in a sustained expansion of domestic demand. So the really troubling thing about reports from Japan is not the export situation, but the fact that there were indications of a decline in retail sales and household spending, and a rise in unemployment. As Blooomberg indicated:
Japan's household spending fell for a third month in July, retail sales slumped and unemployment unexpectedly rose, suggesting a rebound in the world's second- largest economy is losing momentum.
Spending by households headed by a salaried worker dropped 3.5 percent from June, seasonally adjusted, the statistics bureau said today. Retail sales fell 2.2 percent in July, the trade ministry said. The jobless rate rose to 4.4 percent from 4.2 percent, as more people sought work.
Now really the only thing which surprises me about this is that people are still surprised by it. There are sound theoretical reasons for expecting that there will be no sustained improvement in internal demand in Japan. Why? Well look at their median age. At 42.64 it's the highest on the planet. And since Japan has virtually no immigrants (as I said above, last year there was a net outward migration as young people move elsewhere in search of better prospects, more negative feedback) this age is set to rise and rise. So, when you come down to it there is no big mystery behind Japan's decade long recession, it has a straightforward explanation: the ageing of the Japanese population.
In fact economy minister Heizo Takenaka indicated in an interview with the Financial Times recently that demography was the most serious challenge facing Japanese society:
From now on, the total population of Japan will start falling,” he said. “That means if we don’t create a system in which the private sector can carry more responsibility, the burden on taxpayers and on the state will become unsustainable.
So why won't domestic demand pick up? Well really some version of the life cycle model of saving and consumption should give us a clue. Basically, following the work of swedish demographer Bo Malmberg (PDF) we can break down the demographic transition as it affects age structure into stages.
First of all there is a child dominated society (Niger, Bangladesh, Nigeria etc) where the burden of having so many non-productive children normally produces negative saving and indebtedness (especially at the state finance level).
Then comes the young adult stage, where saving predominates over investment, China is, of course, the classic example of that right now. Then you have the mature adult society - with one more time indebtedness and negative saving, but this time producing consumer driven booms - here we might think about the UK and the US.
Finally old age arrives, and once more people begin to save appreciable portions of their income, and consumer demand is flat, or even falling slightly. I say finally, but maybe I spoke too soon, since we still don't really know what comes next. On the standard version of the life cycle theory people should start at some point to draw down their savings, but to date there is little evidence of this. However, if we look at things in terms of Ricardian equivalence, where we take the aggregate of private and state borrowing into account, then clearly looking at Germany, Italy and Japan there is growing evidence of some kind of symmetry with the debt problems of the child dominated societies, certainly in terms of the move towards unsustainable government debt dynamics. I think the reality of all this has really yet to sink in on the financial markets and their risk assessments.
Now, as, I said much of this should have been clear before the latest raft of data started arriving. I myself posted on my own blog just the week before about problems in Japan that refuse to go away, in this case deflation which, despite all the spin, continues to trickle along. Or again there are Japan's fiscal problems which lie in wait in the background, ready to choke off any incipient demand recovery as preoccupied politicians seize the earliest opportunity demand growth offers to raise consumption taxes. And then there is employment, which I was posting about back in June. There is a lovely graph here which shows how unemployment in Japan has steadily fallen since early 2003, but what does the trend mean?
The first thing to note is that Japan has a very non-normal definition of working age population: everyone over 15 (note that at 75 some 25% of the Japanese population are still economically active). The labour force is defined as everyone in that age group who is either working or registered as seeking work. Now the other interesting thing to note is that even with that a-typical definition the labour force in Japan started to decline after reaching its peak in 1999. (See this excel spreadsheet) That decline was continuous until February of this year, since which time the total labour force has rebounded. Now the really, really strange thing is that the actual numbers of people employed have been dropping solidly since a 1997 peak, but sometime around the end of 2003 they started to turn up, continued to rise during 2004 till September and then fell back again till February of this year. Since February they have been rising again, and it is clearly both the rebound in people available for work and the recent rebound in persons employed which has lead to all the speculation that Japan will take off.
But if we step back from this just for a moment and allow ourselves to think, then we can see that this rebound is hardly sustainable, since it cuts against the whole deadweight of a generally ageing and declining workforce. This 'counter trend' has at best a very limited future. More general discussion of some of the reasons why this is the case can be found in this paper by Warwick McKibbin (slow loader but worth the wait). Especially to be recommended are all the splendid graphs McKibbin puts at the end, and in particular the one which shows on page 35 of the Adobe Acrobat reader: Age Earning Profiles, Japanese Data 1970 to 1997.This gives, as is to be expected a hump shaped curve, with the peak somewhere in the mid 50s. I like to think of this curve as giving us a nice proxy for productivity potential. Now the point I would like to make here is that as the Japanese workforce ages the more of the workforce there will be over the other side of the hump. This will affect both average labour quality and earning capacity. This is just one of the reasons I feel the trend is not sustainable.
Actually, from a theoretical point of view what is happening in Japan is extraordinarily interesting. It would be premature to give any definitive explanation as to why membership of the labour force has been on the rise, but increased earnings as the labour market tightens must be part if the picture. But this will have a significant downside for companies facing on the one hand increases in energy costs and on the other weak consumer demand which leaves them without pricing leverage. What happens next will, in this sense, be really interesting to watch. Get ready.