Japan Is Caught Between the US, China and the War on Inflation

troubles to come. A big financial crisis followed by years of slow growth, central bank pumping hundreds of billions into the economy, cropping up asset markets, all in an effort to stop low inflation. All of that happened in Japan. Years before it happened in the US and Europe. People talked about the Japanification of the world economy, the idea that every aging industrial society was going to end up

looking like Japan. They're not saying that anymore now. Inflation has taken off in the rest of the world, and Japan might just might be starting to be more like other places. And not just in the sense that it might be finally able to change its monetary policy from the maximum loose setting it's been at for nearly a decade.

Japan's also stuck in the middle of the Biden administration's hardened approach to China and spook by the invasion of Ukraine, the Japanese Prime Minister Kishida is planning to ramp up defense spending, testing the limits of the pacifist constitution that the US imposed on Japan after World War Two. I'm going to talk to Bloomberg's longtime government reporter here, Isabel Reynolds,

about that a little later. I'll also talk through the challenges facing the Central Bank and all of Japan with a former senior official at the Ministry of Finance who has also been the chair of the Asia Development Bank. But first, Bloomberg's Japan economy reporter, Yoshiaki Nohara, has a story to tell you about fish. Wage is on the price of a plate of sushi. That is the sound of a tuna auction at the wall's biggest fish market to your soul market in the Bay of Tokyo, bells ring.

The men haddle up with a shouting bidding gold. Looking down, I see hundreds of giant tuna all over the trading floor, some roll, some frozen, some from Japanese waters, some from abroad. Most are destined to be in mouth watering, sashiming or sushi dishes at the ground. The market seems just as big as ever, but something has changed and almost everyone is feeding the pain. Whatever. You know, My guy that this morning is a scan director of Tokyo Marine Products

Whole Serah's Association. Unique prices have shot up by more than that's absolutely a matter of fact. I'm just talking about the overall prices. Of course, some items are rising by a whole lot more. Inflation has been dormant in Japan since the mid n despite policy makers taking extraordinary steps to get prices rising again. But with global inflation catching fire in the recovery after the pandemic, the heat has finally spread here too. They will, like the movie,

continue to go. The auction prices will keep going up and up. They're set by these negotiations with bias, not by contracts. So for fresh fish like tuna, the market prices changing every day. You know how it works. Higher fewer prices mean extra costs or fishing boats to catch

fish and transport them. On top of that, you have the impact of lingering global supply change disruptions, and now the historic collapse of the end that makes imported fish way more expensive, and forty percent of japan seafood actually comes from abroad. All of this has prices rising as the fastest rate in forty years, and the government is stepping in to help squeeze the consumers. If that sounds

familiar where you are, well the similarities and there. Because the inflation rate here is still only three point six percent, you might ask, how can inflation still be so low when Japan is an island country heavily dependent on important food and energy. To understand that, I need to take you to another floor of the fish market, yosh Noble. Yoshashi is one of several hundreds of small wholesalers who buy seafood from the larger wholesalers and process it to

sell to retailers. It's not just fish, it's getting price here. Sarching oil prices mean the cost of the plastic rock to stop fish going dry and to form ice boxes to keep fish cold are all going up too, But these costs are not being passed on to customers, or not yet anyway, Well, we can't. As you know, prices on restaurant manames are pretty much fixed everywhere. You can't just dump call our extra costs on our own customers. We have to swallow the pain to a certain degree.

More obviously, that Yang is making things even more complicated for your Shashi. By October this year, Japan's currency had shared more than twenty against adalla at. Japan's stacked with ultra low interest rates while the US hike rates to tackle inflation. That's raised the price of your Hash's imports the sea adgents from the US and Mexico, for example, But it also means he makes a higher profit on

the sushi ingredients he exports to other markets in Asia. Overall, his business managed to just stay above water, but his restaurants in Japan are losing money and he had to tap into company savings to keep paying his employees. So why doesn't he just keep raising prices for his customers? How does everyone is scared doing that in the US. It's like people think crist sykes are inevitable because costs

are going up. But in our case here, we really wonder what the customers will keep coming back if we raise prices. Yoshi has she isn't alone many happenings. Companies are very reluctant to pass on costs because of this fear of losing customers not used to inflation. Two numbers demonstrate how much they absolve. Nine point one percent is a pace of rising material costs for companies, three point

six percent is a pace of inflation. Consumers see that gap means squeeze the profit, and with less profit, companies keep wayses front and if they're wases aren't going up, people are less willing to accept higher prices. Japan has been stuck in this vicious cycle for more than two decades. As Bank of Japan Governor Harrohiko Crowder reminded us after a recent media now which is effectively rising by around three percent, we can't achieve our two percent inflation go

stably and sustainably. What you need, isn't it by sticking with rock bottom interest rates while most of the world is tightening. The Bank of Japan hopes finally to break the cycle and the false wages up, even if it means the yng falling and the Finance Ministry spending billions of dallas propping it up, as they did this fall

fourth of first time in twenty four years. It's an awkward combination, but the government and the central bank are both hoping this can be the final chapter of the country's decades long battle to raise inflation, but Japanese consumers ready for a world where prices go up year after year. I went to your Hashi Sushi restaurant in Chiba, seast of Tokyo to test the move. Steph at the sushi

restaurant are getting ready for lunchtime. Restaurant manager recycle Inshida comes back from the Toyosa market with boxes packed with the fish gone for now. At the days of buying road tuna to keep on budget, she buys it frozen. Now. I really wonder how much longer we can go on like this. I just don't see an end to how your prices. We pushed up some prices on our menu a bit, but we've already been hit by another rising coast. That was the first price hike at the restaurant in

nearly six years. Nishida kept many of the items unchanged out of fear of losing customers. It's lunch time now. I meet no zoie Imori, a thirty eight year old nurse who is sitting at the table with her parents. You know they've just given up on the trip to Hawaii. After calculating how much you would cost more because of a cheapm they tell me they shop for household essentials at the lowest prices, and they're only buy clothes when it's on sale. Right. I think price hikes are inevitable,

but the problem is wages they aren't rising. As they finished their meal, I asked them about the lunch price. The price of the lunch special has been unchanged for years. Eight pieces of sushi, including fresh tuner and the steamed egg. It costs nine yen or six point five U S dollars. I know, I know it's a still for average tourists from overseas, and they agree this is very cheap. Yes, this is cheap. I asked them if they think the price should be hired. That discount for customers means less

profit for the restaurant. Less profit means workers are not getting away. I don't think it's too cheap. The cheaper the price, the happier we are. Kroda will stepped down from the central bank soon after ten years trying to make inflation normal gain in Japan. If this restaurant is anything to go by, his job is not quite downe in Tokyo for Umberg News. I'm Yosha Ki. Yeah, m so, Isabel Reynolds has been here in Tokyo covering the government

in the country for many, many years. About twenty you were saying, and I wanted to briefly dig into how all of this is feeding into Japanese politics and how the hardening lines between the US and China are also affecting Japan's strategic outlook and it's where it sees itself

in the region. Is abelt Assuming that quite a lot of people listening to this podcast are not closely following Japanese politics, just give us a quick introduction to Prime Minister from your Kashida, who came into office just over a year ago. Yes, well for me, for Kia came into office as a bit of a perhaps a person lacking in personality, I would saying he managed to win the job as leader of the party despite being the

most popular option with the public. So he came in with this kind of slightly devish image in terms of of security policy um and on the economy. On the other hand, his policies on COVID were very popular. He was quite conservative on that and Japan's elderly population tended to like that UM, But then all of a sudden, his predecessor and former boss Prime ministerians Or Abbe was shot dead. That unveiled a huge scandal about links between a controversial church known as the Moonies and the LDPUM

and that totally underlined his support UM. So it's been falling ever since, and and issues over inflation and rises in the cost of living have certainly not helped well. I was going to ask you about that looking at his approval rating, which I think is what you'll tell me is but it's pretty it's pretty low at the moment. How is inflation affecting that, Yes, it's it's certainly among the issues that are weighing on on his support it UM.

I think we can say that he's seen as someone who's perhaps not very proactive in a lot of ways. So that played into his advantage when it came to COVID. He didn't rush to open up the borders and left everyone in when people were still worried about the virus. But when it comes to inflation, is he changing things enough? Is he doing enough to help people? If you look at the polls, I think a majority would say no, and that's definitely one of the factors that's that's hurting him.

And one of the things that sort of happened while I've been here in Tokyo is a is a confirmation of a big increase in defense spending. What's the significance of that, I mean obvious, Traditionally we do think of Japan as being constitutionally limited in what kind of defense

build up it can do. But I see it's on course to the story you've written, and on course to spend more than Russia on defense, right, Yes, yes, I mean this is in fact a huge turning point for for Japan, and I think it's mainly inspired by Ukraine. People in Japan looked at Ukraine and realized that they could be sitting there perfectly quietly and someone else might

come and attack them. Until now, I think it had been sort of assumed that if you didn't attack anyone else, well they wouldn't probably wouldn't attack you either, um, but that that mindset has definitely changed a lot. If you look at the polls, people are in favor of more defense spending, and obviously there are issues about how much more you should spend, way you should get the money for that. I mean, will Japan cut its huge pension

budget to put money into defense. That would not be a very popular option, or raising in a country full of many many pensioners exactly exactly, and raising taxes is very unpopular as well. So there's still many questions over whether that where the money comes from. But I think Japan is actually reaching a historic turning point over defense,

and it's happening amazingly quietly. During the Prime Minister Abbey's administration, we often saw huge demonstrations outside the Prime Minister's residents over what he was doing in defense, which was which pay else in comparison really in terms of size with what Prime Minister Kishido is doing despite his soft image. Of course, it was Prime Minister Abbe who had was the part of a shift in Japan's approach and a sort of a tougher stance of these of each China,

at least on the sort of strategic front. I mean, I guess we have to. It's not they're not worried about being invaded by Russia when they spend this money. It's very much with with China and defense against China. In mind, I saw that he did meet with President Sieging being last month in Thailand. You know, how did the summit go and how has all this fed into

its relations with China? Because China is still Japan's biggest trading partner, even as we're talking about these massive increases in defense spending, right, I mean, the relationship was still phenomenally important in terms of the economy for both sides. Um So that was was the first big meeting on that scale for Japan and China now for three years, um um we I think we see a very different relationship between Japan and China now, um largely because of

Beijing's clampdown on Hong Kong. I think that was a turning point for Japan where they started to realize that that China was going to be more difficult to deal with them they realized. Um So, we've seen a more robust attitude from Japan towards China on many fronts since then. On the other hand, I think they do not, certainly not everybody. And then the administration kind of appreciates what America is doing on Taiwan. Um. For example, the visit by Nancy Pelosi EA to Taiwan did not go down

very well with everybody in Japan. UM. They don't like UM what they might see as unnecessary provocations. So where they can cooperate, they say they do want to and they want to continue their economic ties as as much as they can. UM. At the same time, we're saying reports that this huge increase in defense spending, a lot of it's going to be intercepting missiles down on the Southwestern Islands, which are close to Taiwan UM, so they're going to be trying to be ready for whatever might

be coming down the pike. The way you describe that, there was a world in which sort of economics and geopolitics could go on different tracks, and that was very much a world that Japan lived in the last few decades, China becoming a much more important economic partner, even as the political stance was very much, you know, as an ally of the US and in a defensive stance visa v. China. I think President Biden would say, you can't have those

things running on separate tracks anymore. And we've seen policies from the US, like the attempts to limit access to the sort of cutting edge semiconductor technology which Japan is kind of in the cross airs, and we talked about that on a previous program with the Japanese Trade minister. Do you think do you think that Japanese politicians to Japanese people are ready for a world in which you actually have to start picking sides, not just politically but

also economically. Or do they think you can somehow have kind of parallel supply chains, you know that sort of keep the US happy but also continue training with China. How are people grappling with that? Um? Yeah, and I think they will put it out at the last possible minute. I mean, there may be ways that the US can force them to do things that they don't really want

to do in terms of the economy. Um. But as far as they possibly can, I think they are going to continue with those things because as everyone knows there's a risk of a recession next year, Brimnisua is not going to want to do anything that will damage the economy in any way. So I think, yeah, they will. They will push as hard as they can to to

stay where they are. It's interesting that it's been so quiet that he's managed to do this big thing on defense, and it hasn't been as contentious as these rather more modest steps at Prime Minister Abbert it Took. I just wondered whether would it start being contentious if it seemed if he if the Prime Minister was more explicitly saying, you know, our relations with China have to change going forward.

My sense is that even though the public in Japan and China both still feel I think, quite hostile toward one another, um, I think the strength of the business lobby in Japan is such that it's going to be quite hard for for Kia to do that kind of thing. And to be honest, it's not really his style to go out and say something very aggressive, you know, if he doesn't really have to. So I think if Japan is pushed into a corner by the US, of course it will go along because the US is always going

to be its most important partner. But as far as it can, it wants to cling onto that strong relationship in the economy with China. It's fascinating because exactly the same conversation is happening in the US, where businesses are all hoping and pushing and saying, we do what it's not practical to decouple this global economy, and we don't know what's going to happen, Isabel Reynolds, thank you so much. So. Ko and Nakao was Japan's top currency official at the

Finance Ministry. Then he ran the Asian Development Bank until he's now chair of the Mitsuho Research and Technologies Institute and as one of the names floated to replace Governor Coroda at the Bank of Japan. Nakasan we heard in the piece that my colleague Yoshi did for the podcast.

You know, families are not enjoying a rise in the cost of the things that they buy, but those rising prices they do hold out the possibility that we might be at the end of these years of battling deflation in Japan and policy can possibly start to be more normal. So I just wonder whether what do you think. Do you think it's different this time? Do you think there is an opportunity for Japan to break out of that cycle.

I'm not sure yet, but many people, including the b O, j and politions and also scholars, have been saying that we need some moderate inflation and to get out of the deferition definition is really bad. So I understand the logic, but this time this inflation is more by the important inflation because of community prices and because of the depreciation. So if infreation is based on the wage increase and the more permanent move over prices, which are healthy, it's okay.

But this is a little bit more abrupt. And we've seen the yen has obviously fallen very dramatically this year. The UK we've had to fall in the power as well. But I've seen some people say that fall in the end will be fantastic for Japanese industry. That you could be, it will be part of the rebirth of Japan as an exporting nation. But I know others think it's deeply damaging. So with which side were you on? I don't like

cheap n I don't like cheapen. The good everything is cheap in Japan, which is making the income I said, personally everything low. And these are the japan going back to the developing countries. And it's not that it's not a good thing for the Japanese life or Japanese presence, Japanese life, Japanese life, Japanese presents and whatever. I don't like the cheap cheap in Japan. It's not good for

the Japanese economy. For several reasons. Once again, the imported prices will or up and uh, the competitiveness gained by the cheap being is not necessarily healthy and good for the economy. And in addition, as the secrator rule being you worked for him yea being mentioned through curlerency, it's good before the economy because of the effort to gain compete compete giveness through the more real things, and also for financial industry to have a stable and a kind

of stronger courlerency is much better than the weakening. That was the view of the Germans for many years, that it's a constraint that makes you efficient because you can't just rely on being cheaper. I'm afraid the UK is

not set on that part, but we will see. And the Bank of Japan faced very early in trying to deal with the problem of the risk of deflation, the problem that interest rates could not fall below the zero and obviously lots of other central banks have had to deal with that in the global financial crisis, but now Japan is the last one standing. Everybody else has been

raising interest rates. That the Bank of Japan still has this quite extreme version of um not just stative easy buying bonds, but also buying other assets, but also promising to control long term interest rates, the so called yield curve control. How on earth are you going to get out of it? Do you think? Yeah, I think it's very difficult to tell them. The build that can change the policy in thestitution in Japanese are different from other countries.

And in addition, even in these conditions because of imported the prices and also the commodity prices high, Japan's price CPI right is still more moderate than others. It is very clear that the wages are not that so much increasing at this moment. The America has faced with the very high increasing ages but because of the exit from a pandemic and also because of a great resignation kind of phenomena. But the in Japan is not the happening. So lestitution is different. But uh, it is becoming more

clear clearer that the bog policies of irritical control. As you mentioned, the quotitative is massive one including some risk

as set like a reed or real estate. These combinations have more career clearly have a more side effect which is bad, including as if the government can issue government bond that very low cost to almost their cost, so it's uh damaging that the discipline of our piscal policies and also the spread for the intermediately banks is very small, which makes the bank activity more conservative or less active. And also in addition, Exchenerate is often influenced by the

easy matter policy. So it is becoming clear that the applies have some side effects. As I said. One of the side effects, as you said, is that the Bank of Japan is very involved in the government bond market in a way, in a way there is no government bondmarket because it's bought all of the government. But also in buying the government bonds, you're making it very cheap all the time for the government to spend. What are

the what are the risks of that? As you say that you've you've allowed the government to get used to

spending and spending and spending. That's right. So yeah, I already mentioned that discipline is lost by this policy, and some people might say that the government that can't spend more because interst rates is law and the efficial radios law, but we still need some disciplines or government spending because the Japan's debt to GDP ration is already two hundred sixty per cent or GDP much higher, maybe double UH

of the United States. So in the end, the if we continued to have a high increasing debt to debratial, people start worrying about the incredibility or the repairment or government bond. If they can be fined refinanced all the time, it's okay. But if we continue to have these ex explosions of our debt depracial maybe it is not a recent British case. I was going to ask you about that.

So when you see Britain getting into a mess with the basically with the market's reassessing the riskiness of government debt in the UK and real problems in the long term in the market for long term government debt government I have used is that? Does that give you pause? Are you worried about something similar happening in Japan? I think it happen in the future because of our home very strong home country by US over Japanese investors. They

still continute to investing in the Japanese government bond. But also because bulj is always UH buying the thing as a bond of Japan. So in a sense, price kind of signal is not really working in Japan, and it's a really bad forul characteristic country or develop a common country like Japan to lose the market functions of market signal thing. So in the regard again there are so

many side effects. So but if the build changes it there can be abrupt increasing or interest rate and it can be uh, it can be uh transmitted to the long interest rate of the housing. And also government financing becomes more difficult because the refinancing go to go up, so it can invite it really invite the shock to the market the many ways. If the y cc IS is abolished, but we need some adjustment even gradually in coming years, otherwise there will be even bigger shock, a blunder.

H A lot of people in the markets act as if it's very urgent, but it sounds like and certainly we were talking to people at the bg A yesterday, there's a feeling that it's not urgent. Yeah, because the once again c p A is a still infition, is still low, and also it is not really induced and so at least from the perspective of video people, there is a japanistiation is still different. So that's why the policy mix can be different. As your final question, which

was thinking back, actually to that very memorable meeting. We were asked a well bank in the autumn of in Hong Kong, just as the age of financial crisis was about to kick off. You know, that was the beginning of an era where we saw much closer economic integration with China and across the region, and a sort of strengthening of the belief that you could have economics and politics run on different tracks. You could have big political differences,

but you could still continue to integrate. The world looks pretty different today. China also looks much stronger relative to Japan as a regional power, and we see the Japanese government increasing defense spending. I just wondered how you see Japan's economy and its future in a world where the US is forcing you to drive harder lines with between the US and China and almost have a sort of

decoupling of the global economy. It's so one of the most important issue of geopolitics, and also do economy or economic discussions. Of course, the delusion vgent tre cran is a very big phenomenon, but more a kind of the historical trend is that the China has become a very big economy and a very big technology center with the world. It's not anymore based in the lower wages, and it

is become more assertive. So as you mentioned, when there were Asian financial crissis and other issues in ninety nineties, China's presence was much smaller. In ninety ninety. For instance, UH, China's GDP in Dalla Touns was the one if about in nineteen ninety, but today it is three times as much or even bigger. Very I wouldn't say negligible, but

it was not a big player. But after as you said, the Asian financial crissis the world, I realized that many imagine e commies are not necessarily China alone, but the Indonesia, Thailand, this country, Latin America, those are becoming important to players

in the world. So G twenty was established a finance mistrel meetings of Central and governors meetings, and then it became a submitting after the Demo crisis, and China became a huge, huge economy, industrial and technological, financial in many respect to China is a very big economies. So I hope that the China will also become more moderate about

their assertations about territorial issues, domestic issues. UH they can continue to be very big economy and big presence in the world without assertation, without saying that the China is great. China is already great economy. Chinese people still about kind of resentment from the period of from the experiences of the developed countries uh aggression to China, including open moll and Japanese agression to China. But China is already respected

and the great economy. And even if they continue to pass the moderate pass, even for the political system is different. If they continue to pass moderate stands in many ways about the diplomacy and about the domestical affairs. I don't think other countries tried to repress China, but because of that kind of I would say provocation. They used to already regards the China as a great computer, great kind of the country which can be which should be checked.

So it has already started. But I hope that we have a more moderate stable I mean becoming after the corpse of the Soviet system, we have had a kind of a reasonable favorable international condition which made a huge contribution to the welfare of the people. Although we now face a difficulty climate change, also social divide or income divide. We should tackle those issues. But overall, the favorable, more peaceful liberal international system has made a huge contributions and

we should make every effort to keep it. And some of the people who have been forced to change their mind about China in the US would say that we have failed many years hope that China would behave in a certain way, but that can't be your policies to hope. So I just wanted do you think it's risky for for Japan economically to continue to believe in this new world that you can be best friends with the US

politically but very closely related to China economically. But there is no other choice, and I Japanese people should continue to or there is no other choice but to believe, but continue to believe that the China will be important commun partners. And also the religion with the United States, say in the security affairs is a crucial and alliance with the United States in the Italy and the alliance is a key to the Japanese stability and also it

is important element of a stability in Asia. If a Japan starts that we amming Japan falsly, I think it would be it would distablished the situation in Asia, so there is no other choice. But at the same time, we cannot have a very continue to have a big optimistic view about China, as you said, so certain deterrence in the security issues is important and sound adjustment to the kind of hyper gloverization where people don't think about

the co execurities or interior heirs. And so we cannot continue to have a hyper gloverization without any thinking about this issue. We should adjust glorganization, but we cannot totally abandoned that the kind of exchange it would with them, the services within countries. I don't think that the US totally be disengaged from the Chinese. Well, American business would

say that they can't. They gone too far already. But just if you were pushed on it by the US, do you think Japan would agree to limit, for example, the semi conductor I think at this moment it is good that way, so flable agree with the President Biden's restrictions on semi conductor technology. It's a very difficult issue, but you don't have to make the decisions. But I think there can be some nuance of Japanese government which can be a little bit different from that of the

United States. It's very difficult to explain, but the Japanese history with the China is very long. To the students, the Japanese students, we have to learn everything of Chinese dynasties, are poem, poets, and history and the philosophers. We know so many things. And Japan was so influenced by the Chinese civilization. But after major restrictions, Chinese also learned a lot from Japan. The Chinese word of communist, for instance,

is the Japanese translations of communists. So we we we know each other much more than between China and the United States. So I hope that the new US all but difference the new US UH compared tones to reach the difficult. It sounds like the British expression of you want to have your cake and eat it, but maybe you maybe you will achieve that. Thank you very much. That's it for the Japanification of Stephanomics. Will be back

with something else next week. In the meantime, do rate the show if you like it, and find more news and analysis of Japan and the world on the Bloomberg Terminal app and website. Also look at at economics on Twitter. I should also say there was a grave injustice in last week's credit Some very important people got left out and that piece about the secondhand clothing that was co reported by Ecodonto and Jani Pandia. Sorry. This episode was

produced by Yang Yang with help from Paul Jackson. Special thanks to Yoshia Kahara, Takehito Nakao go on A, Mitso, Ryotaro Nakamaru, Erika Yoka, Yama, Keiko Wiki, and Isabel Reynolds. Mike Sasso is the executive producer of Stephanomics.