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Fitch Revises Outlook on Japan to Stable; Affirms at 'A'
April 27, 2017 / 12:19 PM / 7 months ago

Fitch Revises Outlook on Japan to Stable; Affirms at 'A'

(The following statement was released by the rating agency) HONG KONG, April 27 (Fitch) Fitch Ratings has revised the Outlook on Japan's Long-Term Foreign- and Local-Currency Issuer Default Rating (IDRs) to Stable from Negative and affirmed the IDRs at 'A'. The Country Ceiling is affirmed at 'AA' and the Short-Term Foreign- and Local-Currency IDRs are affirmed at 'F1'. Fitch has also affirmed the ratings on Japan's long-term senior unsecured local-currency bonds at 'A' and short-term unsecured local-currency bonds at 'F1'. KEY RATING DRIVERS The revision of the Outlook to Stable from Negative reflects the following key rating drivers: Japan's improving economic outlook has lowered risks over the trajectory of public debt. Revised economic data show the economy is larger and growing at a faster rate than previously indicated. A cyclical upturn is also underway, underpinned by near-term fiscal support and strengthening external demand. Fitch projects the gross general government debt/GDP (GGGD/GDP) ratio to rise to 238% in 2024, from 230% in 2016, compared with the agency's previously projected increase to 260% from 245% in its June 2016 review. There was a major revision of national accounts data in December 2016, which was updated to meet 2008 United Nations Standards as opposed to 1993 and rebased to 2011 prices from 2005. The new data incorporates a wider range of investments in intangibles and raises the 2015 level of nominal GDP by 6.3%. Importantly, the data shows real GDP grew at an average annual rate of 1.0% between 2011 and 2015, compared with 0.6% under the old series. External demand has exceeded our expectations and we believe net exports will continue to contribute positively to growth, absent a rise in protectionism. Fitch expects the strong labour market, higher public investment and burgeoning tourism sector to further support the economy. We expect growth of 1.0% and 0.9% in 2017 and 2018, respectively, up from 0.6% and 0.7%, respectively, at the time of our 2016 review. We have also increased our estimate of potential growth to 0.5%-0.8% from 0.3%-0.5% to reflect the larger capital stock and faster total factor productivity growth shown in the new data. Japan's ratings are constrained by the sovereign's high debt and challenging debt dynamics. Fitch revised the Outlooks on Japan's IDRs to Negative from Stable on 13 June 2016 after the government pushed back the date of a scheduled consumption tax hike to October 2019 from April 2017. Fitch interpreted the decision - the government's second postponement - as a sign of waning commitment to fiscal consolidation and adjusted its baseline assumption to exclude a consumption tax hike in 2019. The government is scheduled to conduct an interim evaluation of its fiscal consolidation plan in the fiscal year ending March 2019. In the meantime, the August 2016 introduction of a further fiscal stimulus package (JPY6.2 trillion of direct fiscal spending from the central government, JPY13.5 trillion including spending from local government and Fiscal Investment and Loan Program) reinforces Fitch's view that the government's medium-term fiscal stance remains loose. However, Fitch expects the improved economic outlook to offset around half of the impact from the looser fiscal policy on public debt ratios. The improved growth outlook and stronger consumption recovery suggests the economy could be more resilient to fiscal consolidation measures, such as consumption tax hikes, than we had previously expected, easing the challenge of stabilising public debt dynamics. Stronger growth could also reduce the need for the Bank of Japan (BoJ) to take further unconventional steps to boost the economy. The introduction of a negative interest rate policy and yield curve control over 2016 has pressured bank profitability and added uncertainty over the operation and path of monetary policy. The BoJ already holds 40% of the stock of Japanese government bonds (JGB) and additional purchases could impair market liquidity. Japan's ratings also reflect the following key rating drivers: Japan's ratings reflect an advanced and wealthy economy with high governance standards and strong public institutions. The country has strong external finances with a persistent current account surplus and large net external creditor and international investment positions relative to 'AA' and 'A' rated peers. This partly reflects Japan's high domestic savings relative to investments. Fitch expects Japan to maintain its current account surplus. Japan has the highest GGGD/GDP ratio among Fitch-rated sovereigns based on our calculations. Public debt net of non-equity financial assets is considerably lower at 148% of GDP in 2016, but still very high against peers. Some financial assets may be difficult to liquidate or earmarked for pension liabilities. Exceptionally strong financing flexibility has helped sustain high debt levels, but debt dynamics are sensitive to variations in parameters, such as economic growth and borrowing costs. Japan's economic growth lags peers, even under the new data, weighed down by a rapidly aging population. The government has launched a series of supply-side reforms since 2013 under the banner of "Abenomics" to improve productivity and competitiveness. There have been pockets of success, particularly in increasing labour force participation and more recently, converting part-time workers to full-time. However, there is still little evidence of the transformative breakthroughs needed to achieve the 'economic revitalisation' scenario envisioned by the government. The withdrawal of the US from the Trans-Pacific Partnership could further lower the political feasibility of reforms in some key sectors, such as agriculture. The BoJ's eventual exit from the extraordinarily accommodative monetary environment poses a medium-term risk. Multiple policy tools - the pace of asset purchases, three tiers of policy interest and a target for 10-year JGB yields - add to the central bank's communication challenges and risk market volatility. However, Fitch does not expect policy tightening over the next two years. Headline consumer price inflation has picked up as commodity prices staged a moderate recovery, but underlying wage and price pressures remain subdued despite pockets of labour market tightness. The BoJ has also made an explicit commitment not to withdraw stimulus until inflation can be sustained above its 2% target. Fitch assigns Japan a Banking System Indicator score of 'a', higher than most other countries in the 'A' rated category, partly reflecting Japan's development level and financial sophistication in a rating group comprised mainly of emerging markets. Japanese banks continue to face a number of challenges, including thinner margins, volatile domestic financial markets, offshore operational and funding risks and rising regulatory requirements. Regional banks are under greater pressure from the negative interest rate policy and domestic developments than "mega-banks", although they are less systemically important. However, the improved growth outlook supports banks' operating environment and reduces near-term risks from further attempts at monetary stimulus. SOVEREIGN RATING MODEL and QUALITATIVE OVERLAY Fitch's proprietary SRM assigns Japan a score equivalent to an 'A+' rating on the long-term foreign-currency IDR scale. Fitch's sovereign rating committee adjusted the output from the SRM to arrive at the final long-term foreign-currency IDR by applying its QO, relative to rated peers, as follows: - Macroeconomic factors: -1 notch to reflect the country's weak growth potential, and uncertainty over the government's fiscal policy stance. There is risk of constraints on the BoJ's policy flexibility emerging as they face the challenge of persistently low inflation. - Public finances: -1 notch to reflect Japan's fragile public debt dynamics given very high public debt, which is of greater risk than accounted for in the SRM. Political sensitivity around revenue raising and increasing social security expenditure for an aging population increase the difficulty of managing public finances. - External finances: +1 notch to reflect the country's status as a large net external creditor and the role it plays as a safe haven at times of global financial market shocks. Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM. RATING SENSITIVITIES The Stable Outlook reflects Fitch's assessment that upside and downside risks to the ratings are broadly balanced. The main factors that could, individually or collectively, lead to negative rating action are: - Inability to arrest the upward trajectory of the GGGD/GDP ratio - A sharp rise in real interest rates on government debt for a sustained period to a level that undermined debt sustainability - Sustained weak nominal GDP growth The main factors that could, individually or collectively, lead to positive rating action include: - Announcement of a credible fiscal consolidation strategy, leading to a sustained decline in the GGGD/GDP ratio - A sustained improvement in real GDP growth and restoration of positive inflation dynamics KEY ASSUMPTIONS The ratings assume that the confidence of the Japanese public in the country's basic economic and financial stability is maintained such that the sovereign's exceptional funding flexibility remains intact. Fitch assumes there is no significant escalation in global or regional geopolitical tensions. Contact: Primary Analyst Mervyn Tang Director +852 2263 9944 Fitch (Hong Kong) Limited 19/F Man Yee Building 68 Des Voeux Road Central Hong Kong Secondary Analyst Stephen Schwartz Senior Director +852 2263 9938 Committee Chairperson Michele Napolitano Senior Director +44 20 3530 1882 Media Relations: Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: Additional information is available on Applicable Criteria Country Ceilings (pub. 16 Aug 2016) here Sovereign Rating Criteria (pub. 18 Jul 2016) here Additional Disclosures Dodd-Frank Rating Information Disclosure Form here Solicitation Status here#solicitation Endorsement Policy here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. 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