A crucial year for Japan's economy outlook

Masaichi Nosaka, The Daily Yomiuri, Asia News Network/Tokyo

With 2005 drawing to a close, attention is now turning to the prospects for the Japanese economy in 2006. There is strong speculation that the Bank of Japan may decide to lift its quantitative monetary easing policy in spring as an end to deflation finally comes into view. Some people expect the nation to enter a new phase: The post-deflationary Japanese economy.

It appears that 2006 will mark a milestone for the economy as the prolonged deflationary recession comes to an end.

Two thousand five is the Year of the Rooster according to the Chinese zodiac. There is a saying in the securities industry that shares make a lot of noise when they change hands during the years of the monkey and rooster.

In share trading, the 225-issue Nikkei Stock Average registered 11,500 points during the first session of 2005 on the Tokyo Stock Exchange. Stock prices then rose due to expectations for economic recovery and a release from the clutches of deflation. The favorable reaction investors demonstrated to the Liberal Democratic Party's overwhelming victory in the general election in September also helped buoy the market.

Prices reached the 16,000 level at the end of the year, marking a 40 percent increase from the beginning of the year. Just as the saying predicted, the market moved tumultuously.

Next year will be the Year of the Dog. It is said in the securities industry that the "dog smiles." Brokerage houses strongly hope the dog will chase shares higher and keep smiles on brokers' faces.

It is too early to predict whether the growth rate of the consumer price index will switch to a steady positive or if the central bank will be able to resist pressure from the government and the ruling coalition parties which are trying to prevent it from implementing an early lifting of its ultraloose monetary policy. It is possible that the market will respond positively to the central bank if it lifts its quantitative easing policy when it, rather than the ruling coalition, sees fit.

If that happens, the "smiling dog" situation anticipated by the securities industry -- and boosted by buoyant corporate performance -- will emerge. If this does happen, a scenario in which share prices rise to 17,000 to 18,000 points likely will become a reality. There is even a bullish view in one sector of the industry that share prices will advance to the 20,000 level during 2006.

Many corporations raised profits on their restructuring initiatives during the recession. Recently, there has been a conspicuous pattern of corporate sales expansion and increased earnings and profits, a situation that acts as a positive factor for the stock market.

Of course, there is a sense of wariness among some people who feel rapid rises in stock prices are taking place in a mini- bubble. We will have to watch stock market movements to see which sentiments -- bullish or bearish -- are correct.

The government, too, appears to be somewhat optimistic about the outlook for the economy. In its economic forecast for fiscal 2006, the government made it clear that the current recovery will continue, predicting 1.9 percent and 2 percent growth in real and nominal terms, respectively.

The economic growth rate forecast by the government is about the same as those given by private think tanks, but the key point to note in the government's projection is that it said the nominal growth rate will surpass the real growth rate.

Prime Minister Junichiro Koizumi's government has set a goal of freeing the nation from recession during fiscal 2005-2006, a crucial period for capping its structural reform policy. The LDP incorporated into its election manifesto a statement saying that the government would aim to attain an economic growth of "more than 2 percent in nominal terms." The figures given in the government's economic outlook ran parallel to those stated in the campaign pledge. The administration expressed its determination to fulfill its pledge by clearly stating the rate of increase in its economic outlook.

However, the draft budget the government has worked out for next fiscal year turned out to be a belt-tightening budget geared for "small government." The increased burden that taxpayers will have to bear was made clear by the abolition of such policies as the fixed-rate income tax reduction. The question of raising the rate of consumption tax from its current 5 percent has now become a topic that can be openly addressed.

If the increase in the taxpayer's burden blunts consumption growth and throws cold water on the shift toward economic recovery, then the likelihood of an escape from deflation and a genuine economic recovery will be much lower.

Whether the bright prospects for the economy that are now coming into view get any closer, and whether stock prices get an extra boost, are likely to hinge on the final touches the government puts on its economic management.