Sales Tax Hike Causes Greatest Japanese GDP Contraction Since Sendai Earthquake

August 12, 2014

A 6.8% crash in real GDP last quarter reversed a 6.1% annualized jump in the first quarter of 2014, leaving the level of GDP this spring 0.1% less than in 2Q13 and just 1.1% above its level in the second quarter of 2012.

Household spending, business spending, imports and residential construction were hammered by the consumption tax hike from 5% to 8% that went into effect on April 1st.  Between the first and second quarter, personal consumption dropped 18.7% at an annualized rate. Residential investment dropped by 35.3%, imports fell 20.5%, and non-residential investment dropped 9.7%.

The hit to imports mitigated the fall in GDP.  As any student of economics will tell you, imports impact GDP negatively; expressed from the viewpoint of spending, GDP equals consumption plus investment plus government spending plus exports minus imports.  Since exports declined just 1.8% annualized, net foreign demand augmented real GDP growth by 4.4 percentage points.  Faster growth in inventories lent 3.9 percentage points to the GDP growth rate.

The negative effects on GDP from consumption (12.4 percentage points) and residential and non-residential investment (2.9 percentage points) outweighed those positives.  Public spending wasn’t a meaningful factor, producing a small 0.2 percentage point boost in real GDP.

The price effect of the sales tax change resulted in a much smaller decrease in nominal than real GDP last quarter.  Nominal GDP only dipped 0.4% annualized following gains of 6.4% in 1Q14, 1.1% in 4Q13, and 1.2% in 3Q13.  Japan’s GDP price deflator advanced 1.7% annualized between 1Q14 and 2Q14 and by 2.0% in the four quarters between 2Q13 and 2Q14.

Japan is the canary in the cave to other advanced economies now saddled with ultra-low interest rates and inflation and a heavy dependency on those conditions to maintain positive economic growth.  Japan experienced a financial crisis over fifteen years before the United States and Europe.  In the twenty years between the second quarters of 1994 and 2014, Japanese real GDP grew just 0.9% per annum, and the overnight Japanese money rate hasn’t surpassed 0.5% since early September 1995.  Until the late 1980s, Japan uniquely defined recession as consecutive quarters of lower than 3% real growth, and that conditions was seldom met.

Copyright 2014, Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.



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