One long-term consequence of the earthquake, tsunami, and nuclear meltdown in Japan will be an acceleration of the hollowing out the Japan’s export manufacturing

One criticism of Japan’s big exporters during the strong yen period is that companies like Sony, Toyota, and Canon had been slow to move production out of Japan to low-cost production platforms such as China and Vietnam.

Part of that came from a reluctance to disrupt long-term relationships with suppliers in Japan. Part of it came from a frayed but still strong traditional commitment to life-time employment for workers.

Whatever the reason Japanese companies haven’t moved a aggressively as those in the United States to send manufacturing functions and manufacturing jobs overseas.  And that left Japanese companies paying higher costs as the yen appreciated.

The destruction of factories at companies such as Toyota have garnered the bulk of the headlines during this disaster. But Toyota can relatively quickly shift production to overseas plants.

The thousands of smaller companies that make up the supply chains for the big exporters don’t have that flexibility. Many are tied to a single plant and right now they’re looking at either the destruction of their own factories or of the exporting giant they supplied.

Some of these plants will get rebuilt—but many won’t or when they are the operators of these factories will find that some of their work has fled overseas. That one reason the Bank of Japan and the Japanese government is flooding the economy with money. They want to see Japanese factories rebuilt quickly to minimize job losses.

I doubt they’ll be very successful. After all the off-shoring of Japanese manufacturing was a long-established trend before this disaster. It was only the pace of the transition that was at question.

Now I think that pace will pickup. Eventually that will be good news for the profits of Japanese exporters. No way it’s good news for Japanese workers or the Japanese economy.

Could negative investor sentiment on Japan be wrong?

Japanese stocks soared overnight, February 17, to their highest level in nine months on forecasts of higher economic growth.

Of course, the higher forecasts of economic growth were for the United States and the Japanese stocks that soared highest were those of Japanese exporters who get the majority of their sales from North America.

Canon (CAJ) gets about 80% of its revenue from overseas—the camera maker’s shares were up 3.4% in Tokyo. Honda Motor (HMC), which gets 84% of its revenue abroad, rose 2.3% in Tokyo trading. Nintendo (NTDOY), Japan’s largest maker of handheld video games, was up 3.9% in Tokyo.

In contrast the Nikkei 225 index, which dilutes its exporters with a strong dose of domestic stocks, rose just 0.38%.

Japan’s more inclusive Topix index is up 7.6% in 2011. That’s driven the average price of stocks in the index to 16.5 times forward earnings. That’s more expensive than the U.S. Standard & Poor’s 500 or the iShares MSCI Emerging Markets index. The picture looks very different for Japanese exporters who are taking advantage of the recovery in the U.S. economy. Canon, for example, trades at just 14.9 times projected 2011 earnings per share.

But earnings per share has long been a deceptive measure of value when it comes to Japanese companies that often emphasize revenue and growth over profits. Read more

Egypt doesn’t have a corner on the crisis market: S&P downgrades Japan’s credit rating

If you’ve let the crisis in Egypt take you mind off some of the globe’s other less splashy crises, let me direct your attention to Japan.

On January 26 Standard & Poor’s cut its credit rating on Japan to AA-. It was the first cut to Japan’s credit rating by S&P in nine years. The ratings company cited Japan’s huge $11 trillion in government debt and the country’s dysfunctional politics as reasons for the downgrade. The Japanese government, S&P said, lacks a coherent strategy for addressing the country’s debt.

The biggest immediate effect of the downgrade has been to put downward pressure on the yen and raise fears that Japan will have to pay higher interest rates on its debt. (The latter seems a distant worry given the country’s massive pool of domestic savings.) Economy and Fiscal Policy Minister Kaoru Yosano called the downgrade “regrettable.”

I’d make an argument that this is just one adjustment in a string of many that the global financial system will need to make as it adjusts to a new world pecking order. Read more

It’s starting to feel a little bit like June 1930. And that’s worrying.

In that month President Herbert Hoover, despite deep misgivings, signed the Tariff Act of 1930, known as the Smoot-Hawley Tariff after its two authors, into law. By raising U.S. tariffs, the act set in motion a competitive trade war that devastated the global economy and helped create the Great Depression.

Watching the unilateral decision by the Japanese to intervene in the currency markets to force down the price of the yen in order to protect Japanese exports, I’ve started to worry about a replay of that history. This time the starring role would go to competitive, beggar-your-neighbor currency interventions and not to any tariff.

But the effect could be the same: Each of the world’s governments acting to protect the interests of its own economy would kill off growth in the global economy.

It’s still just a worry mind you. And we won’t head down this path to lower economic growth unless Japan gives signs that it’s not content with a relatively small drop in the yen and Europe and China star to retaliate to protect their own exports. But the consequences would be so disastrous that I think it’s worth understanding how this yen intervention could trigger Smoot-Hawley II. Read more

More gloom and doom on Japan? I can’t wait (Well, actually I can but November seems a good time to buy)

On August 30, the Bank of Japan, the country’s central bank, announced a major new program of monetary stimulus. The governor of the bank even flew back from the Federal Reserve’s Jackson Hole conclave for the world’s central bankers. The Japanese government announced what it billed as significant new economic stimulus package.

And the financial markets blew a giant raspberry. The moves had been designed to slow the relentless appreciation of the yen, which has killed Japanese exports by making them so expensive and which threatens Japan’s economic recovery. But the yen actually climbed to finish the day at 84.5 to a U.S. dollar. That’s not far off the 15-year high for Japan’s currency set lat week.

The yen seems doomed to keep on climbing. Japanese exporters seem doomed to keep on sinking. The country’s economy seems doomed to sink back into recession. And the central bank and the Japanese government seem powerless to stop it.

And that’s not the end of the gloom in Japan. The country recently slipped from No. 2 to No. 3 in the listing of the world’s largest economies. The government is bogged down in endless infighting. The country is one of the fastest aging in the developed world. And some of the country’s great corporate icons—Toyota Motor (TM), for example—are better, these days, at producing recalls than cars.

Interested yet?

I am.

Japan is still the world’s No. 3 economy, and home to some of the great export companies with some of the most recognized brands in the world economy. It’s corporate resources in robotics, biotechnology, and industrial materials research and development are among the world’s leaders. It’s stunning government debt is supported by one of the globe’s deepest pools of consumer and corporate savings.

So bring on the doom. Write off Japan. Sell Sony (SNE), and Toyota, and Honda Motor (HMC), and Canon (CAJ). The yen will turn one day—in spite of all the dysfunction of Japan’s politicians. And the tide that has drowned even the best of Japan’s companies will recede to leave that best still standing. And when that tide turns, I’d like to be able to say that I picked up some of those great companies at doom and gloom prices.

Let’s start off by understanding why investors are so gloomy about Japan right now. Read more