The economic indicators coming out of Japan out of the last month have not been very positive (1)(3). This in itself is not new as most of the world is in deflation fighting mode, recession and in slow growth. What is different about Japan is the desperation in how the government is dealing with the results. After 20 years, why is there such fervor to inflate prices so quickly and not wait and see if it the policy will even work? The rest of the developed world also wants to generate inflation using the same methods of printing money, forcing people to take risks in buying equities and increased infrastructure spending but it has not worked. Why is there such a haste to call an election to "hear the voice of the people" when they have already spoken.(4) They are saying that the popularity of Abe's government is declining (3)(4), they are not going to spend more with less income, they don't like the defense policies, and they do not want tax increases. (2)(12) Is this election about trying to enact unpopular policies that so far have been a dismal failure? Will more of the same thing work? Perhaps given enough time, there may be some serious growth and all of the debts can be paid and taxes lowered again - or perhaps the Japanese government is in crisis mode?
The key reason why Abenomics is questionable is that the world is not static. When a policy move is enacted, there will be a reaction and a response which may change the dynamic of the economy. There are 3 examples given below as to what is meant by this statement.
The Japanese government wants to buy government bonds in order to lower the value of the yen and increase exports. Do you think that other countries are not doing the same thing? In fact, many countries are doing exactly that with the Quantitative Easing program, the ECB reducing interest rates and the liquidity injections taking place in many economies. (6)(7)(8)(9)(10) The best result Japan can hope for is that the Yen will hold its value relative to other currencies. The problem is that buying bonds requires money that is being issued with interest. This means that the deficit clock is ticking from the day the bonds are issued, and the debt keeps accumulating. Servicing this debt will constrain future spending for the government.
A second example of the world not standing still comes from the suppliers of industrial production. Exports are assumed to rise with a weaker currency - but this assumes that the exporters are paying for their production inputs in Yen. What if they are paying in other currencies because production is not being done in Japan? This outsourcing is very common and it is done all over the world. If you lower the value of the Yen versus these other currencies, which likely will not be sustained due to the currency war, the effect will either be muted or perhaps make Japanese producers worse off. The buyers of the imports will be paying for their products in Yen because the goods must be sold in Japan. There are likely some exceptions to this with internet shopping and buying in other currencies directly, but suppliers can move virtually all of their production around the world, whereas buyers will typically buy most things using their home currency. (5)(11)
The third example is that if you raise taxes, the assumption is that people will keep spending as they did before the tax hike. If people are making the same wages when you raise taxes, spending will have to decrease somewhere else for people to have the same lifestyle as before the tax hike. Unless there is corresponding growth in wages to match the tax hike, this idea will backfire and it has. Abe now wants to call an election so he can try raising the sales tax a second time, which can lead to worse conditions. The assumption is that there will be no reaction to the changes from the Japanese consumer. This is obviously not true and if you need proof, look at a chart of supply and demand and change the income and price levels and you will see how the chart shows the counter reactions that would take place.
Policies should be looking at the global picture and anticipating what the players will do given the profit motive and the options available to execute that motive. The other area of anticipation is that people will adjust their buying habits if their survival is at stake or they are experiencing a change of mind, fear or greed. This is not easy to do in practice, but there are examples around the world to illuminate what these responses will be, such as QE in the U.S and the ECB rate decline. (9)(10)
Sources:
1) http://www.bbc.com/news/world-asia-30092633
2) http://www.bbc.com/news/business-30077122\
3) http://mainichi.jp/english/english/newsselect/news/20141118p2g00m0dm023000c.html
4) http://news.yahoo.com/japans-abe-expected-delay-tax-call-snap-poll-055151421.html
5) http://uk.reuters.com/article/2014/11/20/uk-japan-economy-trade-idUKKCN0J402A20141120
6) http://www.bloomberg.com/news/2014-10-15/u-s-says-china-shows-some-willingness-to-let-yuan-rise.html
7) http://www.marketwatch.com/story/a-currency-war-is-coming-2014-04-23
10) http://online.wsj.com/articles/ecb-cuts-interest-rates-in-surprise-move-1409832304
11) http://www.reuters.com/article/2014/11/21/us-japan-economy-aso-idUSKCN0J505820141121
12) http://www.channelnewsasia.com/news/asiapacific/japan-s-lower-house-of/1485520.html
Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.