Press Release No. 12/217

Press Release: IMF Team Completes the 2012 Article IV Consultation Discussions with Japan

June 12, 2012

An International Monetary Fund (IMF) team, led by Mr. Jerald Schiff, Deputy Director for the Asia and Pacific Department, visited Tokyo during May 30 - June 12 to conduct the annual Article IV discussions with Japan. The team met with senior officials from the government, the Bank of Japan (BoJ), and private sector representatives, to discuss recent economic developments and the policy challenges ahead. Mr. David Lipton, the IMF's First Deputy Managing Director, joined the final policy discussions.

At the conclusion of the visit, the mission issued the following statement:

“The Japanese economy has shown remarkable resilience and adaptability in the aftermath of the Great East Japan Earthquake and is now experiencing a solid recovery. Looking forward, the recovery will be sustained by reconstruction spending and stronger private consumption. A weak external environment, particularly in Europe, is likely to dampen demand for exports and weigh on business sentiment. Moreover, the exchange rate has appreciated over the past year partly because of safe-haven capital inflows, and our analysis suggests that the yen is moderately overvalued from a medium-term perspective. On this basis, we expect real GDP growth to reach about 2 percent in 2012 and slow slightly to 1¾ percent in 2013, with headline inflation remaining near zero percent. Risks to the outlook have shifted decidedly to the downside with the turmoil in Europe intensifying and other advanced and key emerging market economies showing signs of slowing.

“To address longstanding challenges of high public debt, low growth, and deflation, Japan needs to move forcefully on many fronts to take advantage of synergies among policies. The immediate priority is to tackle Japan’s deep rooted fiscal problems. Net public debt (125 percent of GDP) has increased ten-fold over the last two decades against the backdrop of a rapid rise in social security spending. Passage of the current tax and social security reforms is, thus, crucial to demonstrate a commitment to fiscal reform and sustain investor confidence. Reducing debt to sustainable levels, however, will require additional measures to achieve an overall fiscal consolidation of 10 percent of GDP over the next decade. Careful design of these measures would help limit their impact on growth.

“At the same time, a bold and comprehensive package of structural reforms is necessary to not only raise potential growth, but also to help reduce the public-debt-to-GDP ratio and to exit deflation. Reforms should focus on the most important constraints to growth, including the decline in the labor force due to aging, low female labor force participation, domestic sector regulations, and limited availability of risk capital.

“Recent measures already taken by the Bank of Japan (BoJ) have supported the recovery and are helping Japan exit deflation. Nevertheless, IMF staff believes that additional easing could be delivered—including by expanding the asset purchase program—to increase the likelihood of achieving the 1 percent inflation goal by end 2014 under the IMF staff’s economic outlook. This could help reduce lending rates further, and given the importance of expectations in the current low interest rate environment, could also raise inflation expectations. Strengthening communication would help increase the effectiveness of these measures.

“The ongoing Financial Sector Assessment Program (FSAP) Update exercise finds that the financial system has remained stable in the face of recent strains in global financial markets helped in part by important steps that were taken to reinforce financial stability since the last FSAP in 2003. Direct exposures of financial institutions to peripheral European countries are small, and non-performing loans remain low. Nevertheless, maintaining financial stability is critical to anchor durable economic growth. The FSAP stress tests suggest that in the near term banks and insurers have the capacity to withstand a range of adverse macroeconomic and financial shocks. Banks’ core profitability, however, remains weak and their large holdings of JGBs and equities raise some concerns about financial stability. To strengthen the resilience of the financial system, further improvements in the prudential framework would be desirable, including tightening of large exposure limits on lending by banks and raising capital requirement for domestic-oriented banks, continuing oversight over systemically important financial institutions and market infrastructure, and improving crisis resolution for nonbanks.

“This year sees the 60th anniversary of Japan’s membership in the IMF and marking this, the IMF-World Bank Annual Meetings returns to Tokyo in October after 48 years. With the Japanese spirit of resilience, diligence and warm hospitality, we are all looking forward to the Annual Meetings being a big success.”