By SHOTARO TANI and IORI KAWATE, Nikkei staff writer

TOKYO — Expensive clothing was not much of a thing for Hiroki Ishimoto, an employee at a public relations company in Tokyo. “I’ve never been one who buys fancy clothes,” he said. “Always settled for Zara and Uniqlo.” 

His wardrobe underwent a significant upgrade in 2017 after the 27-year-old received “quite a big” increase in his winter bonus. Now when he goes to work, it is typically in his brand new coat from Mackintosh, which set him back a cool 200,000 yen ($1760). That’s not the only thing that has changed. “I’m eating out quite a lot more now,” he said, expecting that his company will continue doing well, which may lead to further pay increases.

Stories like Ishimoto’s are becoming more common in Japan, thanks to solid economic growth in recent months. With the government noting the economic “improvement” from the diffusion index for October, the Japanese economy entered its 59th month of expansion, marking the second longest postwar growth phase and surpassing the “Izanagi” boom, which lasted 57 months between 1965 and 1970.

Japan’s inflation-adjusted GDP growth came in at an annualized rate of 2.5% in the July-September period. The expansion has now stretched into a seventh consecutive quarter for the first time in 29 years. Consumer sentiment is improving, thanks to strong corporate earnings backed by low interest rates and a stable exchange rate. The 225-issue Nikkei Stock Average, Japan’s benchmark equity index, reached a 26-year high in November.

Prospects for workers look brighter, too, as a tight labor market is beginning to push wages higher. As economywide demand outstrips supply, the country finally might be on course to ending deflation, which has dogged the country for nearly two decades.

Firing on all cylinders

Business is brisk for companies like Harmonic Drive Systems, a Tokyo-based manufacturer of components for industrial robots. Orders for the July-September period soared 140% on a nonconsolidated basis from a year earlier.

A growing investment in labor-saving devices worldwide — which Harmonic’s president Akira Nagai said is “faster than expected” — and the strong global economy is providing a tailwind for industrial robot makers like Harmonic, as well as other Japanese companies. As a whole, ‘Japan Inc.’ recorded 17.8 trillion yen in ordinary profits in the July-September period, a year-on-year increase of 5.5%. With near-record profits, it is no surprise that the corporate sector is leading Japan’s current economic growth.

Annualized inflation-adjusted GDP for the third quarter totaled 534 trillion yen, up 30 trillion yen versus the first quarter of 2013, the start of the current recovery. Capital spending and exports increased 13 trillion and 17 trillion yen, respectively, over the period.

Higher corporate profits are the starting point for pulling Japan out of deflation, as companies begin to invest more for future growth. 

In the automotive sector, for example, companies are now willing to invest in technologies related to electric vehicles and autonomous cars, two obvious growth opportunities. Autoparts maker Denso, part of the Toyota group, is planning to pour 500 billion yen into research and development by 2020 in the new technologies. Sumitomo Chemical has increased its research and development spending by 7% this fiscal year from a year earlier to 168 billion yen, with the money earmarked for development of parts related to lithium-ion batteries used in electric vehicles.

Nikkei research in July found that about 40% of major Japanese corporations are likely to spend their most ever on R&D in the current fiscal year, with spending forecast to reach 12 trillion yen. This marks a year-on-year increase of 5.7% — the biggest rise since fiscal 2012, when the country was handicapped by the massive earthquake that hit eastern Japan.

Not only are companies increasing investments, they are slowly but surely rewarding workers with higher pay. What the Bank of Japan calls the “virtuous cycle” — increased income leading to increased spending, both in households and companies — is starting to materialize.This could be seen at Bic Camera, a popular electronics retailer in Japan. Home-use inkjet printers, priced at around 20,000 yen, are selling well. “Machines priced at 7,000 yen to 8,000 yen used to sell well because most people bought them just for printing [documents],” said an employee at the Shinjuku branch of the retailer. But more sophisticated printers are now in high demand because more parents want to print high-quality photos of their children, and they could afford them.

Consumers are feeling flush partly because the jobs picture has brightened considerably. The seasonally adjusted unemployment rate released on Dec 26 by the Ministry of Internal Affairs and Communications fell to 2.7% in November, a 24-year low. The jobs-to-applicants ratio hit a 44-year high, according to the Ministry of Health, Labor and Welfare. 

The labor shortage has prompted companies to offer better conditions for potential workers. As of November, 34.5 million people worked as full-time employees, an increase of 1.1 million compared to January 2013. Even within this year, the proportion of non-regular workers among 25- to 34-year-olds dropped 0.9% to 25.6%. Increasing full-time employees leads to higher costs, but companies are now willing to pay.

Sayuri Yasuba, a 38-year-old woman working at a financial company in Tokyo, recently became a full-time employee after a change in her company’s personnel system. Not only did this mean a wage increase, she was able to receive a bonus for the first time in the 11 years that she has been with the company. “I decided to splurge on a new Christmas tree for my children,” she said. “We already had one small tree, and were it not for the change to full-time status and a higher salary, we would have just gone with the old one,” Yasuba added, saying she now has more peace of mind.

Not all roses

For the government, the GDP deflator, which measures price movements over the entire economy, is a key yardstick. It, along with three other indexes, climbed into positive territory in the July-September period for the first time in 25 years. The Cabinet Office believes the economy has entered a new phase.

While it is true that companies are gradually increasing fixed investments and workers’ pay, seemingly sharing the government’s optimism, they aren’t fully convinced. In a country with a shrinking and aging population, “the increase in profit the companies expect from capital investment is falling,” noted Taro Saito, director of economic research at NLI Research Institute. “The increase in capital investment is slower than in previous economic expansion periods,” he said. Companies in Japan sat on a record 199.5 trillion yen in cash and deposits at the end of September 2017, money which could have been spent on further capital investment.

That same cash could have also been spent on bigger wage hikes. Because the number of workers has increased, the nominal compensation of employees as a whole has risen quarter-on-quarter for 12 quarters, running to the July-September period. Per capita wage growth, however, remains tepid, with only a year-on-year increase in the low 0% range.

Consumers are still budget-minded. Aeon Retail cut prices for private-brand foods and daily necessities in August, and sales of target items increased by 50%. Major food wholesale leaders said that consumers are looking for cheap products on the internet, so the pressure for price cuts is strong.

The stark reality is that Japan’s inflation rate is still well below the 2% target that the BOJ envisioned with the government in 2013. Prices, excluding those of volatile fresh foods, rose 0.9% in November, less than half the target rate. The central bank only sees inflation reaching 2% “around fiscal 2019,” which ends in March 2020.

No wonder then that Prime Minister Shinzo Abe is pressing big corporations to raise wages by 3% in 2018, which would be the highest increase since 1994, before Japan fell into deflation.

“I’m sorry to trouble you all the time,” Abe told Sadayuki Sakakibara, chairman of Japan’s largest business lobby group Keidanren, in a late October meeting, during which the PM asked companies to shoulder some of the burden for the administration’s new two trillion yen economic plan.

Abe’s show of contriteness was attributed to the meeting coming only a week after the prime minister subtly pressured Sakakibara — and by extension large corporations — in the Council on Economic and Fiscal Policy to increase workers’ wages by 3%. “Raising wages is a social demand,” Abe said at the council. “I hope we can see a 3% wage increase.”

To be fair, Abe is supporting the companies through tax reforms: The government will introduce provisions in tax rules starting in fiscal 2018 whereby companies that raise wages and boost capital investment will see their effective corporate tax rate slashed.

The tax provisions “will be an incentive [for raising wages],” Sakakibara admitted in a press conference in early December. “I am keeping a close eye on it with huge interest.”

Abe’s actions are understandable given the number of potential pitfalls in the economic outlook. The U.S. economy is pulling the world — Japan included — along with it, but officials at the U.S. Federal Reserve are worried about a stock market bubble. If the Fed steps up its interest rate increases, the economy may slow, taking down the global economy with it. Tension over North Korea is another headache for Japan, as it could potentially scare overseas tourists away. Japanese businesses could see their earnings sag if the yen appreciates sharply.

Japan is definitely showing signs of escaping deflation. Whether the country can make that a certainty amounts to a race against time.