How Japanese spend money

The Jakarta Post ,  Jakarta   |  Wed, 06/20/2007 9:46 AM  |  Opinion

Paul Donovan, London

The idea that Japan is a nation of savers is something that has been firmly established in the myths of popular economics. In fact, Japan's savings rate has been falling for a number of years, and the Japanese household now saves a smaller proportion of its income that does the German. Nevertheless, Japanese consumers do still save money. This year poses an interesting question as to what will happen to that money, particularly as the Japanese population ages.

Traditionally, economists assume that an ageing population stops saving, and starts spending their accumulated savings once they reach retirement age. In fact, evidence from Japan suggests that the retired generation continue to save. This is because the Japanese elderly tend to be cared for within the family. This care is ""paid for"" by leaving a bequest to the next generation -- and the bequest necessitates saving.

Of course, as one would expect, the older generation who do not have children, tend to save less). This means that the average savings rate in Japan will decline as the population reaches retirement -- but it is unlikely to decline as much as is likely in Europe or the United States.

This year marks an important turn for the Japanese population. In 2007, there will be a significant increase in the number of Japanese who are sixty years of age. This is significant, because Japanese corporate pension schemes tend to come into effect at sixty.

Japanese pensioners who are part of a corporate pension scheme will receive a regular pension income. If they chose to continue in work (and nearly half of them wish to continue in full time employment, according to survey evidence), their compensation is likely to be reduced. And finally, and potentially most importantly, at sixty years of age corporate pension schemes pay out a lump sum cash payment.

This creates a potentially interesting set of circumstances for financial markets, and in particular for financial markets in Asia. Broadly, there are three global consequences from this increase in the number of Japanese turning sixty: Consequences for consumer spending; consequences for financial markets; and consequences for currencies.

Consumer spending is likely to get something of a boost from these lump sum payments. Most of the pension payment is likely to be saved -- but it is unlikely that all of it will be saved. A proportion will be spent, and this has the potential to benefit other countries in the Asian region.

According to the International Monetary Fund, Japan imported US$22 billion worth of goods from Indonesia during 2006. Of course, that is a broad range of goods (including raw materials), but the consumer element plays a role. There is also the possibility of increased tourism spending (which counts as a Japanese import). UBS believes that the rate of Japanese consumption growth will more than double during the current fiscal year, and that creates opportunities for Indonesian companies.

For financial markets the concern is clearly the proportion of this money that is saved rather than spent. A sudden payment of capital to Japanese households allows them to reflect on investment strategies, and perhaps make some adjustments to their portfolios.

The trend of Japanese retail investors has been towards more risk seeking investment strategies, and in particular to favor overseas assets -- at least over the course of the last twelve to eighteen months. How this money is allocated (and whether the decisions taken with regards to these funds prompt a reassessment of other aspects of the portfolio) has the potential to have an impact on relative asset prices.

Japanese retail investors' risk appetite so far has been reflected in their willingness to invest in overseas assets. Japan has (according to the Bank of Japan) a relatively sizeable stock of assets in Indonesia. The Japanese owned $455 million of equities and $469 millions of bonds in Indonesia at the end of 2006 (excluding those equities held as foreign direct investment). It is possible that the Japanese investor will choose to increase their asset allocation towards domestic funds rather than foreign, but to date there is little evidence of that.

Clearly, one group of investors is unlikely to drive an entire equity or bond market -- but it could be a positive contribution to existing momentum.

The final consideration from the retiring Japanese population is the implication for currency markets. Traditionally it is assumed that an ageing population will strengthen a currency -- as pensioners repatriate overseas assets in order to finance their lifestyle. However, in the case of Japan this does not seem likely to be the case.

For the near term at least, the Japanese retail investor is likely to put money to work in foreign markets. This is likely to keep the yen weaker than would otherwise be the case. That also means that the yen could fail to appreciate as much as many people expect against the Indonesian Rupiah.

Japanese money therefore matters this year. The ageing population, and the peculiarities of Japan's old age financial arrangements, mean that how the Japanese allocate their money has a global impact.

The writer is Managing Director of Global Economics, UBS Investment Research. This is a personal view. He can be reached at paul.donovan@ubs.com.

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