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E for arrow

7 April 2016 By Rob Cox

Japanese Prime Minister Shinzo Abe’s grand economic turnaround is wobbling. Something good will endure, however, from the country’s burst of financial experimentation. Just don’t look to the Bank of Japan’s negative interest rate blunders, or the government’s muddled fiscal policies. The public tussle between American activist investor Dan Loeb and one of the top retailers in the Land of the Rising Sun illustrates how corporate-governance reforms may hold the most long-term promise.

It’s a surprising twist. Just a few years ago the joke in Tokyo was that the three so-called arrows of Abenomics ranked as A for monetary policy, B for fiscal policy and E for structural changes. The central bank’s qualitative and quantitative easing, alongside the government’s stimulus measures, have gathered the biggest headlines – and cost Japanese taxpayers the most. Yet both are proving increasingly unpopular with the business community, investors and consumers.

Consider the central bank’s negative interest rate policy, which took effect in mid-February. The plan, under which the Bank of Japan would charge financial institutions a 10-basis point fee on a portion of their reserves, is meant to get cash moving out of the banking system and into the real economy. Japanese companies are hoarding as much as 300 trillion yen ($2.8 trillion). The government would understandably like to see this put to more productive uses than buying government bonds.

While that sounds desirable in theory, it’s not happening in practice. Bank executives say they have not charged customers for holding deposits in their vaults, and are unlikely to do so anytime soon. Markets, though, took the move as if they already have. The Topix 100 stock index has lost 18 percent so far this year, as investors piled into the safety of the yen. Individuals, meanwhile, fear they will soon be charged for their bank deposits, even though the central bank’s measures are designed to impact corporate savings. That has not coerced them into carefree shopping sprees.

In March, the first full month since negative rates went into effect, confidence at Japan’s biggest manufacturers worsened, according to last week’s “tankan survey.” Moreover, big companies said they planned to reduce spending on new plants and equipment by 0.9 percent in the fiscal year that just began, worse than economists expected. So flies the first arrow of Abenomics.

The second arrow is veering equally wide of its mark. The government has promised additional stimulus as part of its recently approved $850 billion budget. At the same time, however, the prime minister is insistent on moving ahead with a planned increase in the country’s consumption tax from 8 percent to 10 percent next April “unless there are situations like the Lehman shock or a massive earthquake.”

That messaging is, to put it mildly, inconsistent. While the country’s debt load, at some 250 percent of GDP offers little room for maneuver, Abe has painted himself into a corner. If he delays the tax hike he will send a message that the sky is indeed falling. Like the attempt to sell negative interest rates as a positive, it’s hard to see how this can instill confidence.

Then there is arrow number three. Included in this grab-bag of proposed reforms were moves to improve the way Japan’s 3,400 publicly traded companies operate, including the rollout of corporate governance and stewardship codes. These mandated, among other things, increasing the number of independent directors on boards and a focus on boosting returns on capital.

The hope was to “stimulate corporate productivity, profitability and competitiveness,” as the OECD wrote at the time, supporting the moves. “An increased use of independent directors on corporate boards will stimulate corporate creativity, facilitating consideration of independent voices. It will also help to establish a constructive dialogue with investors who are expected to maintain a healthy tension in discussions about long-term corporate value creation and profitability.”

While they were widely viewed as box-ticking exercises, they’re beginning to bite. In late March, Goldman Sachs forecast returns on equity of the largest public companies would rise from 8.3 percent in the latest fiscal year to 10.3 percent in fiscal year 2018. The yen’s more recent slide, if sustained, may of course alter the picture.

Yet look more closely, and the impact becomes clearer. On Thursday, Toshifumi Suzuki, the octogenarian chief executive of Seven & i Holdings, the $37 billion operator of the Seven-Eleven Japan convenience store empire, fell on his sword after losing a governance battle with Loeb’s hedge fund, Third Point. According to Loeb, who went public with his grievances last week, Suzuki was planning to push aside the company’s competent president, ignore investor concerns about the expansion of its retail footprint away from convenience stores, and anoint his son instead.

Suzuki’s plan failed to sway a majority of the company’s 15 directors. Among these are four independents, three of whom just arrived in 2014 as the new governance reforms of Abenomics were unveiled. For struggling Japan, one out of three arrows might not be so bad. 


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