Capital IdeasTM

Investment insights from Capital Group

Japan outlook: The road to sustainable wage growth
Anne Vandenabeele

Soon after assuming the top job at the Bank of Japan, central bank chief Kazuo Ueda pledged to maintain the ultra-loose monetary policy (adopting negative interest rates to encourage spending) and massive stimulus (aggressive purchase of Japanese government bonds to keep borrowing costs low). However, he acknowledged the “side effects” of prolonged monetary easing and stressed the need to avoid being too late in normalising its policy.

Wage growth has been a key policy priority in Japan. In April 2023, nominal cash earnings climbed 1.0% from the prior year, based on data provided by Japan’s Ministry of Health, Labour and Welfare, falling short of market and policymakers’ expectations. Adjusted for inflation, real wages dropped 3.0% over the same period for the 13th month.

For a healthy wage-price spiral (accelerating wages and prices over a sustained period) and sustained reflation to materialise, positive real wage growth is necessary.

But raising wages was seen as a hurdle among Japanese companies given the illiquidity of the labour market as reflected in the following charts. The government is trying to improve the situation by gradually implementing changes such as the retirement benefit tax revision, which is an attempt to correct the traditional system of preferential tax treatments given to long-tenured employees. It will take time for these efforts to bear fruit.

Percentage of employees by length of service (2020)

Sources: Japan Institute for Labour Policy and Training, Capital Group

Number of people employed and changing jobs in Japan (2022 average)

Calendar year 2022 average. Job changer: number of people who changed jobs within a year of employment, among full-time employees in Japan. Sources: Ministry of Internal Affairs and Communications, Capital Group

Corporate profit margins are high despite profit pressure

On a positive note, a significant share of listed Japanese companies announced meaningful wage hikes earlier this year, amid labour shortages and global competitiveness concerns. Fast Retailing, which owns the Uniqlo clothing chain, took the lead among the corporate giants in Japan after it announced wage increments of as much as 40%.1

Video game company Nintendo was among the Japanese corporate giants to announce salary hike this year amid the government’s push for higher pay. The video game company plans to increase the salary of its employees by 10%.1

Although wage hikes will be a headwind for profits, corporate profit margins are at a multi-decade high. This means companies can afford to redistribute. As shown in the following chart, the blue lines representing profit margins have been on the rise since the global financial crisis in 2008, as a stronger yen drove Japanese companies to cut costs.

Another trend can be observed in the breakeven ratio, which has been on a decline. This shows companies can achieve profitability at a faster rate with reduced costs and higher profit margin.

The changing face of Japanese corporations

As at December 2022. Period of analysis from Q1 1990 to Q4 2022 (four-quarter aggregate). Bold lines are four-year moving average. Sources: Ministry of Finance, Capital Group. Corporate statistics provided by Ministry of Finance, covering non-financial and non-insurance companies with capital stock of more than 1 billion yen (4,805 companies for Q4 2022)

The power of unions

In another Japan outlook paper published earlier this year, we highlighted the clear shortage of workers in Japan, particularly in services. Despite a rising openings-to-applicants ratio and companies reporting insufficient manpower, wages have not risen much and are slow to respond to tight labour conditions and inflation, resulting in falling real wages.

The Shunto wage negotiations for regular wages are key to driving near-term wage growth for the majority of employees in Japan. Shunto, also known as the spring wage offensive, is the annual wage negotiations between Japan’s labour unions and the employers. The negotiations that started in February saw wage hike announcements from major corporations within the same industries, some likely in fear of losing talents to competitors. This year’s negotiations were a big win for labour unions following an average 3.7% increase in salaries, the largest pay hikes in 30 years.

Other key drivers of wage growth, especially for other workers such as temporary employees, are ongoing economic activity and the strength of demand for these workers. So far, there are promising signs of such wage reflation, but the trend remains vulnerable to an economic downturn.

Japan’s labour market shows continued signs of tightening

The Employment Condition Diffusion Index measures the dispersion of change of employment conditions. Data as at 30 May 2023. Sources: Bank of Japan Tankan, The Japan Institute for Labour Policy and Training

Long-term growth trends

Change is underway and the long-term growth prospects in Japan may be improving. Companies are looking at automation, digital transformation and restructuring to achieve productivity gains while keeping labour costs in check. For example, IT services firm Fujitsu is undergoing a restructuring and transitioning from a labour-intensive project business model to more profitable and agile digital-focused projects.

Meanwhile, the global demand for automation has benefitted companies like global sensor supplier Keyence. Japan is long known for its strength in automation, and its technology in this area could grow in importance as companies recalibrate and streamline their manufacturing processes.

Other long-term trends like DX (digital transformation), GX (green transformation) and defence build-up could also benefit Japanese companies, particularly the leading world-class companies in industries such as semiconductors and precision manufacturing.

Secular trends and reforms underpin long-term growth

In summary, labour conditions are tight and could become tighter in the long term, potentially leading to policy changes (such as tax code revisions and greater immigration). The relaxation of visa rules for foreigners in the start-up industry and 14 other labour-constrained sectors are recent positive changes. Continuing demographic pressures could accelerate these changes.

In terms of growth prospects, I see a lot of potential tied to digital and green transformation, which, combined with pro-growth reform and incentives, could boost productivity. These would be the key ingredients in turn for years of potential sustained wage and economic growth.

[1] Source: Reuters, reported on 7 February 2023. 

Anne Vandenabeele is an economist at Capital Group, covering the US and Japan. She has 21 years of investment industry experience, all with Capital Group. Anne began her career at Capital as a participant in The Associates Program, a two-year series of work assignments in various areas of the organisation. She holds a master’s degree with honours in economics from the University of Edinburgh and a master of philosophy in economics from the University of Oxford. She is also a member of the National Association for Business Economics. Anne is based in Washington, D.C.

Hear from our investment team.

Sign up now to get industry-leading insights and timely articles delivered to your inbox.

By providing your details you are agreeing to receive emails from Capital Group. All emails include an unsubscribe link and you may opt out at any time. For more information, please read the Capital Group Privacy Policy

Past results are not a guarantee of future results. The value of investments and income from them can go down as well as up and you may lose some or all of your initial investment. This information is not intended to provide investment, tax or other advice, or to be a solicitation to buy or sell any securities.

Statements attributed to an individual represent the opinions of that individual as of the date published and do not necessarily reflect the opinions of Capital Group or its affiliates. All information is as at the date indicated unless otherwise stated. Some information may have been obtained from third parties, and as such the reliability of that information is not guaranteed.

Capital Group manages equity assets through three investment groups. These groups make investment and proxy voting decisions independently. Fixed income investment professionals provide fixed income research and investment management across the Capital organization; however, for securities with equity characteristics, they act solely on behalf of one of the three equity investment groups.