Situation in Japan

|Japan's situation in the era of low interest rates

Marked by the collapse of Japan's stock market and property market in 1991, Japan fell into a 30-year economic stagnation. Compared with other countries in East Asia, Japan has entered an era of low interest rates.

In the early 90s, the Japan government took the initiative to tighten the bubble, and the stock market and real estate market bubbles burst one after another. The balance sheets of households and corporate sectors have been severely impacted, and the momentum of social growth has declined; Real economic growth and rapid price declines. To get out of the crisis, the Bank of Japan turned to loose monetary policy, cutting its policy rate nine times in a row from July 1991 to September 1995, and the discount rate was reduced from 6.0% to 0.5%. Later, due to the impact of the Asian financial crisis, in 1999, the Bank of Japan effectively lowered the overnight lending rate of unsecured banks to 0%, ushering in the era of "zero interest rates". Since then, monetary easing has been continued.

Although the Bank of Japan has maintained very low interest rates for a long time, the stimulus effect on the economy has not been obvious. Since the "zero interest rate" (1999-2019), Japan's real GDP growth rate has been 0.79%, which is significantly lower than before 1990. During the same period, the CPI averaged only 0.1% year-on-year, and the gap between the 2% target is still large. Due to medium- and long-term changes such as the aging of the population and the relocation of the manufacturing industry, Japan's potential growth rate has fallen rapidly since the 90s, and the potential growth rate of 4% in the early 90s has fallen to about 1% by the end of the 90s. At the same time, the natural interest rate is also falling, so the Bank of Japan has actually lowered its policy rate and kept it low for a long time.

|日本低利率时代特征

|日本低利率时代资产表现

低利率的30 年间，对比日本各类资产收益率：债券>股票>汇率>存款>物价>房地产。以1990 年底为起始，日本的债券、股指、日元、存款资产到2019 年均实现了正收益，且能够跑赢当地的通胀。其中，含票息的债券指数累计涨幅可达160%，约为股票指数涨幅的3.2 倍。而商品房价格上，即便是首都圈新房均价也未能回到1990 年水平。

From the perspective of price fluctuations, although the cumulative return is higher than that of deposits, the fluctuation range of the stock index and the yen exchange rate is obviously larger. In particular, the stock index did not usher in a stable recovery until 2013 and returned to the cumulative positive return range.

In terms of phases, the return performance of bond assets was optimal during the period of rapid decline in interest rates (1991-1998) and in the zero interest rate range (as of 2012). Especially during the rapid downturn, the composite bond index rose by nearly 7% on an annualized basis, significantly outperforming other assets. At the same time, although the yen exchange rate fluctuated greatly in the two periods, it also achieved cumulative positive growth, and the annualized increase was second only to bonds, which may be related to the resilience of Japan's exports and changes in the dollar index. Deposits, although yields were thin, also marginally outperformed the CPI. In addition, there have been short-term improvements in the stock market during this period, such as the Japan stock market performed well from 2003 to 2006, achieving four consecutive years of growth.

In the third stage, since 2013, as the Japan economy has recovered, the return on equity assets has led significantly (annualized return of 12.8%); The level of house prices is also gradually recovering, with the increase slightly outpacing that of bond assets.

Throughout the negative interest rate era in Japan, the market value of real estate and housing is much larger than that of stocks and government bonds, still reaching 3.6 times nominal GDP in 2018, 2.2 times government bonds and 1.5 times equities in 2023. However, judging from the trend of changes in different assets, the overall expansion of the scale of government bonds has risen sharply from 14 trillion yen to 95 trillion yuan in 21 years, an expansion of nearly 7 times, of which the central bank and insurance institutions are the main institutions to increase their holdings.

After the stock market bubble burst in 1990, the ratio of total market capitalization/GDP of the Tokyo Stock Exchange fell rapidly, and then continued to fall below 100% until 2012, reaching 147% in 23, slightly below the 90-year peak. The residential market value has not returned to the high level of the 90s, and after 1993, the overall trend tends to decline, and after 2012, it resumes to rise, and the residential market value/GDP ratio is 3.61 in 18 years, which is still lower than the 4.32 level in 1993.

|Industry performance in Japan's low interest rate era

For the Japan market, during the period of rapid decline in interest rates (1991-1998), consumer goods, medical, electronic semiconductors and software services performed relatively better. Among them, in the 90s, Japan promoted the upgrading of the manufacturing industry from "thick and heavy" to "light and thin", of which electronic semiconductors are the core advantage industries; The software service industry benefited from the wave of information technology development in United States the 90s. In addition, although the consumer discretionary sector also performed well overall, it was mainly driven by the performance of auto companies such as Keihin, Honda, Suzuki and Toyota.

After 1995, Japan reopened the global market with advantages such as light weight and low fuel consumption. The industries that performed better in Japan at that time were mainly concentrated in industries that went overseas to obtain demand and industries with rigid domestic demand.

In the early period of zero interest rates (1999-2012), most industry sectors achieved positive returns, especially the prices of real estate and consumer services, which had fallen sharply, have recovered significantly. Wholesale of essential goods still maintained a better performance. The previously better-performing hardware and semiconductor gains were relatively narrow, and the software technology services industry was the industry with the largest decline. In addition, the banking and utilities sectors also saw slight declines.

|Residents' asset allocation in the era of low interest rates in Japan

The proportion of financial assets increased, and the proportion of cash increased under risk aversion.

Bank asset allocation in the era of low interest rates in Japan

After the bubble burst, banks' non-performing loans continued to accumulate. After the end of World War II, the Japan government played a leading role in economic reconstruction and industrialization, and in this special historical background, Japan formed a unique main banking system.

Under the main banking system, banks hold a large number of shares in affiliated enterprises and provide mortgage support for affiliated enterprises on a fixed basis. At the same time, due to the erroneous expectation of healthy growth in the stock market and housing market, the Bank of Japan issued a large number of loans to real estate companies, and invested part of its own funds in stocks and real estate. After the bubble burst, the banking sector could not recover loans, and non-performing assets accumulated rapidly, with the non-performing loan ratio exceeding 8% at the highest.

Under the low interest rate policy, the deposit and loan spreads of the banking industry narrowed, and the losses caused by non-performing loans were superimposed, and the banking industry in Japan suffered a bankruptcy crisis. In 1990, the spread between bank deposits and loans was 3.3%, but as of 2017, it has fallen to 0.67%, squeezing the profitability of the banking industry, and the sharp decline in loan risk premiums has also made banks less cost-effective in lending. Under the double blow of operating pressure and asset loss, the myth of "non-bankruptcy of the banking industry" in Japan has been shattered, and bank bankruptcy and restructuring incidents have occurred one after another.

In order to cope with the cold winter period of the industry under low interest rates, the Bank of Japan has adjusted the structure of the asset side, raised the standard of lending business, and locked in the scale of loans. In order to avoid the continuous increase in non-performing loans, the Bank of Japan increased its prudence in loan approval, and began to "reluctance to lend", and between 1994 and 2004, the balance of bank loans nationwide fell from 470 trillion yen to less than 400 trillion yen.

In terms of industries, the balance of loans in the manufacturing and real estate industries has been shrinking for a long time, and the balance of loans in the household sector has also shown negative growth in the 90s. The second is to increase the allocation of securities internally and look for high-yield assets externally. In an environment where net interest margins and deposit and loan spreads have narrowed, the banking sector has mainly increased its allocation to government bonds, while reducing its holdings in stocks and corporate bonds to a certain extent, and gradually stabilized at a lower scale. At the same time, in response to the long-term sluggish interest rate environment in China, the banking industry has actively increased its allocation of high-yield overseas securities, and the scale of overseas securities holdings has been rising. As of the end of November 2023, more than two-thirds of the total assets of Japan's banking industry are allocated to government bonds and overseas securities, while the proportion of equity allocation is only 5.88%.

The third is to adjust the duration of bonds according to risk exposure and monetary policy. Since the beginning of the 21st century, Japan banks have shown a tendency to shorten duration, and from 2001 to 2005, the duration of government bonds held by banks has decreased by about 2 years, probably to avoid long-term interest rate risks. After Japan implemented quantitative and qualitative easing (QQE) in 2013, banks gradually extended their duration.

Fourth, expand non-interest business and increase revenue sources.

After the bursting of the economic bubble, Japan regulators relaxed business restrictions on financial institutions, encouraged the integrated development of banks, and commercial banks actively expanded their business lines and increased non-interest business income such as commissions, handling fees, and transaction fees. Taking Mitsubishi UFJ Bank, one of the three largest banks in Japan, as an example, since 2004, the fluctuation of non-interest business income of MUFG has increased, reaching 1,695.4 billion yen as of 2023, of which investment funds, securities and credit card business contribute the most to non-interest business income, accounting for more than 40%.