Japan After the Quake, After the Floods - GMO's Richard P. Mattione
I can see all obstacles in my way …
It's gonna be a bright, bright, sun-shiny day.
Japan's recovery from the Tohoku earthquake and tsunami of March 11, 2011 has been so astounding that people rarely even think about the tsunami anymore. Even fewer remember that heavy rains in Thailand further disrupted the global production chain at the end of 2011. With so much accomplished, why do so few Japanese companies see bright days ahead?
This paper will first look briefly at the resolution of the five potential earthquake- and tsunami-related bottlenecks identified in last year's report.1 The accomplishments are truly remarkable: except for the issue of power supply, the bottlenecks are long gone.
I will then examine how chronic issues such as the expensive yen, deflation, and Japanese government debt leave some clouds in Japan's future. Japan's recovery has played out in the context of slowing demand in the rest of the world, triggered by budget battles in the United States, sovereign debt and bank financing difficulties in Europe, and a slowing economy in China. Then, to top it all off, anti-Japan protests in China triggered by the issue of sovereignty over a few small islands in the East China Sea (called Diaoyu by the Chinese, Senkaku by the Japanese) resulted in disruptions and damage at Japan's factories in China. One would scarcely be surprised if Japanese corporations have not seen a bright day ahead, yet there has been enough progress to make Japan an interesting place to be.
Japan's bottlenecks after the quake: four down, one still to go
In the intermediate aftermath of the earthquake and tsunami, Japan and the global economy faced five key bottlenecks: damage to chemical plants in Kashima; disruption of electronics-related plants in Tohoku; consequent disruptions to auto production worldwide because of the problems in chemicals and electronics; disruptions to Japan's energy production; and the possibility of financial disruption if the disasters forced a number of firms into bankruptcy. The disruption to nuclear power production was the only one that appeared at that time to potentially take a long time to solve, and such indeed was the case. So four down, one still to go: not too bad!
The speed with which corporate Japan mustered its resources remains impressive, witnessed by the rapid improvement in many of Japan's economic numbers after the quake. Industrial production slipped 16% in March 2011 from February 2011 (the last full month before the quake), but in eight months had recovered to within 4% of the February 2011 level despite bumps from the floods in Thailand (see Exhibit 1). By now the effects of quakes, the tsunami, and floods are gone from the data, but the recovery in overall production peaked about 3% shy of pre-quake levels before slipping again on a slow global economy. Domestic motor vehicle production topped out in April 2012 at a level 10% above pre-quake levels, as Japanese makers caught up with demand and rebuilt inventories.
The unemployment rate had drifted down from 4.7% just before the quake to 4.2% by September 2012. The uptick in production boosted overtime for workers, which fed through to consumption in the first half of 2012. Thus, while technically the quake and tsunami caused a recession, the recession proved short. Real GDP fell 2.3% in the first half of 2011, but rose in each of the four subsequent quarters. As of the June quarter of 2012, real GDP is 1 percentage point above the level in the last quarter of 2010, before the quake. The autumn of 2012 sees the economy shrinking again, but the earthquake and tsunami are not the cause; instead, blame slow global demand and politics, domestic and foreign.
The chemical industry
In the immediate aftermath of the earthquake and tsunami, chemicals were a potential chokepoint because of their use in a variety of electronic and automotive applications. A number of products – BT resin, high-purity hydrogen peroxide, and EPDM – were cited as severe bottlenecks. Yet the chemical chain was fixed fairly rapidly, and by the third quarter of 2011 was no longer a significant constraint on Japanese or global growth.
Briefly it appeared that a new bottleneck for Japanese and global production had arisen when Evonics managed to blow up its cyclododecatriene (CDT) plant in Germany in March 2012. CDT is a precursor chemical for PA-12, a nylon resin used in brake and engine parts that must stand up under severe heat and stress, and Evonics accounted for 50% of global capacity. Dire articles warned that the global auto industry would soon grind to a halt,2 with Japanese producers again seen as the most affected because they tend to run with low inventories. The disaster never materialized. Auto makers allocated nylon-12 production to parts such as truck brakes that needed the highest resistance to heat and stress, and made do with a variety of substitutes elsewhere. Theoretically, repair records over time could show some costs for the substitution, but as of this date things appear to be fine.
Electronics and electrical equipment
Within a few days of the earthquake, the destruction at plants producing electronics parts in the Tohoku region of northern Japan was cited as a key bottleneck. In particular, several Renesas Electronics factories that produced microprocessors (MCUs) for cars were heavily damaged, temporarily bringing production of a wide variety of car models (mostly Japanese, but in some cases American) to a halt. But, as expected, Japanese firms came together and focused on solving these problems, and by the third quarter of 2011 production had recovered for MCUs and other electronics products that had posed a bottleneck.