Japan as a safe haven

Global markets are in a risk-off mood as investors scramble to find a sure thing in an uncertain world. The populist surge in Europe and the US is ending long held “certainties” about the developed democracies, while this week’s Brexit vote could set in train the European Union’s break-up. Ironically, as investors scramble for stable ground, Japan is proving an island of calm, at least for those with an eye to capital preservation. The yen has risen 6.5% against the US dollar in June and yields on 10-year government bonds have plunged to -16bp. It helps that reflationary policies adopted by the Bank of Japan have failed to stir monetary velocity and with it price levels, so boosting yenbased risk-free assets.

Last Thursday saw the Bank of Japan disappoint equity investors by not boosting its asset buying programme and making no mention of helicopters being revved up to drop money into government coffers. Such inaction will support the yen as was the case until late-2012 when it became clear that Shinzo Abe would be prime minister and had a plan to adopt US road-tested reflation policies.

A preferred currency trade in recent weeks has been shortsterling / long-yen which makes good sense when the political positioning of the two countries is compared. While the UK works through its great existential drama and agonises about its place in the world, Japan remains locked in a familiar political stasis which even involves an old-style political scandal based on the misuse of political funds. Tokyo Governor Yoichi Masuzoe quit his post, setting up a gubernatorial election on July 31, which follows a national election for the legislature’s upper house on July 10. As a result, electors will be served up a mixture of pork with new spending to be delivered in a supplementary budget, and plowshares in the shape of a foreign policy that does not antagonise voters with sabre-rattling moves toward remilitarisation.

Prime Minister Shinzo Abe has emerged from recent political shenanigans more popular and strengthened. He has moved against philandering male cabinet ministers who have courted opprobrium among female voters and it is noteworthy that four of the candidates for the Tokyo governor role are women. With the Liberal Democratic Party facing no serious opposition, Japan increasingly looks like a solvent and stable bet, even if it remains mired in deflation and sluggish growth.

None of this quite fits with the standard bumbling narrative that most foreign commentators have for Japan. As I see things, Abe’s reflationary policies have had tangible results in that the national mood has been shifted from misery to something approaching a can-do spirit with results seen in the sharp pick-up in employment of “lost generation” workers. Yet it remains an indubitable fact that Japan remains stuck in its deflationary trap and the propensity of the population to splurge or even take risk has barely been budged by hugely expansionary monetary policy.

The Japanese mindset has been shaped by 20 years of grinding economic disappointment and BoJ policy has singularly failed to change that. Micro-saving and frugal living has become a fashion, especially among young people. Although workers received juicy bonuses after the 2014-15 pop in corporate profits that followed the yen’s more than - 50% devaluation, wages are not rising and so the reflexive response (entirely in accordance with Milton Friedman’s permanent income hypothesis) has been to save.

To be sure, next week Britons may stick to type and conservatively vote to stay in the EU, causing investors to focus more on Europe’s cyclical recovery rather than forces of disintegration. In that eventuality the general climate will likely shift toward risk-on and current extreme investor positioning means the yen will likely retrace gains and JGB yields could move higher in a whiplash movement.

Still, our broader point is that so long as the developed world remains racked by political uncertainty, a steady-asshe-goes Japan will likely revert to its more familiar role of being a low-growth shock absorber, with the yen offering a

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