Hot spots: Japan.(economy)

The latest surveys of consumer and business confidence and talk that the Central Bank may soon begin to tighten policy have raised fresh concerns about the sustainability of the economy's recovery. While it is true, however, that Japan is not totally out of the woods yet, the country is clearly in much better shape than it was four years ago, when the stop-start recovery began.

One reason cited by both corporate managers and heads of household for their less-than-sanguine views is the high level of oil prices, which cuts into company profits and the disposable incomes of consumers. Japan imports more than 99 percent of its oil, and average retail prices for gasoline hit a 15-year high at the start of last month.

To add to the negative signals, several senior members of the Bank of Japan have been saying in recent weeks that the time is rapidly approaching when the institution will consider abandoning "quantitative easing" (its term for a super-easy monetary policy) and raising interest rates. For good measure, two of Japan's corporate stars--Sony and Sanyo--reminded the world a few weeks ago that all is not well yet on the business front, when they announced thousands of job cuts and heralded a slew of plant closures to stem a tide of red ink in their ledgers. This was all it took to trigger a rash of commentaries in the international press to the effect that Japan remains in danger of sliding back into recession.

The ongoing recovery may be unspectacular, but it is real, and it is qualitatively quite different from the two other post-bubble upturns the economy has experienced. Companies have been paying down debt aggressively since 1997 and are now in a much better position than they were a few years ago. This finds its reflection in near-record corporate profits. It has been evident also in the strong recovery of big banks, which have halved their non-performing loans to under 4 percent of total portfolios and have thus drastically reduced their exposure to market swings.

Companies have come a long way in reducing what once was massive over-capacity in many sectors. They have also made a major effort to reduce their fixed labor costs, not so much by firing people; but gradually, by curtailing their hiring. The labor market is now beginning to tighten. Unemployment has already fallen by more than a percentage point from the peak of 5.5 percent hit in 2003, and the ratio of available jobs to job seekers is lower than at any time since the early 1990s. Wages have stabilized and have started to rise in some sectors.

Overall, economic growth is now the result of corporate enterprise, not of fiscal pump-priming by the government. To boot, the Bank of Japan is not nearly as eager to tighten monetary policy as recent statements may make it appear. It has long insisted that there are three conditions that must be met before it will do so, namely (1) core consumer prices (excluding the impact of oil) must have stopped falling for a few months, (2) policy makers have to be certain that prices will not resume their slide, and (3) the Bank has to be confident about the overall strength of the economy. Core prices have risen only in one month since April 1998. They dipped by 0.1 percent last August from a year earlier, after declines of 0.2 percent in ...