Japan: preparing for a wage growth surprise!

Nadya Mihaylova - 22 March 2017

When it comes to economic theory, nothing works in Japan. The latest data points confirm that Japan’s labour market is tight as a drum: the unemployment rate is down to 3% and there are job openings outnumber applicants 2.1:1 (figure 1). Moreover, the economy is humming along at a 1.5% annual growth rate – pretty good for a country with a shrinking working-age population – and employment is rising at breakneck pace. An absolute shortage of workers is a looming possibility. Yet, average annual pay inflation is miserable and even the wage bill is barely 1% higher than a year ago (figure 2). What will it take to light a fire under Japanese wage inflation?

One factor which helps to explain the negligible rise in wages to date is the growing share of part-time and temporary workers in the labour force following the financial crisis. The number of part-time employees – most of whom are women and older workers – has increased from just 11.1% in the 1980s to around 30% today, having a depressing impact in wage growth. However, as the economy has started to recover and business confidence to improved, the share of part-time employees has flattened off in recent years. The most recent data also indicates a stronger demand for full-time, regular, workers who have higher pay and more bargaining power. Therefore, the negative structural trends which have weighed down wage growth are abating and are likely to reverse soon.

The wider macroeconomic conditions in the country have also continued to improve. The medium-to-long term inflation expectations in the business world have stopped declining as the labour market has tightened and the negative effects of the low oil price have dissipated. The burst of growth in the global economy has also helped to boost export growth – up 11% year-on-year in the latest month – and corporate profitability, which could translate into higher bonuses and non-scheduled payments – two components of total cash earnings which tend to increase in booming business cycles. Since corporates in Japan have a more reflationary mindset, denying basic pay hikes will be more difficult than when price growth expectations were much lower.
 
As a consumer-driven economy, a sustained acceleration in wage growth is critical to the attainment of the Prime Minister, Shinzo Abe’s reflationary goal. Minimum wages are to be increased by 3% per annum from 798JPY to 1,000JPY by 2023, which is likely to ripple up the entire pay structure and into higher average wages. In addition, Japan is committed to a package of bold reforms, Workstyle Reform, that will overhaul counter-productive labour market practices. Abe’s proposed reforms will introduce a legal principle of ‘same work, same pay’ and set a cap on overtime hours per worker. The stage is set for a wage growth surprise, taking nominal average wage growth well above 1% in this financial year, and nearer to 2% in the following year.


Figure 1


Figure 2


 



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