Abenomics and the Pension Bubble

Last week it was reported that the Japanese Government Pension Investment Fund (GPIF) had made a record annual return of over 12 percent last year. Considering the rapidly aging population in Japan and the related problem of how to finance pensions for large numbers of retirees with a shrinking active workforce, this may have seemed very welcome news. However, if you look a bit closer, it isn’t all what it seems.

The GPIF owes the record return mainly to increasing share prices of Japanese companies, of which it is holding stocks. The Nikkei 225 recently reached its highest level in about 15 years and it wasn’t all because Japanese exporters profited from the weakening yen. Another big factor was the decision of the Abe government to have the GPIF shift its asset allocation from government bonds to stocks. It reduced the bond target from 60% to 35% while increasing the stock target from 9% to 25%. Most of the above-target bonds have since been sold to the Bank of Japan (BoJ), which under “Abenomics” will buy up any volume of government bonds.

With the money from the bond sales the GPIF could go on a buying spree, while individual investors have actually been selling more shares than they bought. The GPIF has been sucking up shares like a vacuum cleaner with money basically printed by the Bank of Japan and this extra demand has inflated market values for shares, whether held by the GPIF or by banks, insurance companies or private investors. Beating deflation was a major declared goal of Abenomics, but so far the stock market is the only part of the economy where the government has succeeded in that goal (albeit only by some impressive stage magic by the Bank of Japan and the GPIF).

Will this recent on-paper gain shore up public finances for pension payments and health care for the elderly? Not really. The stock market can be a tricky beast. Just ask the Chinese, who had experienced an even more impressive stock market bull run until their bubble burst!

If the GPIF holds 25% of its assets in shares and it needs to pay pensions, it can only do so by selling shares at whatever the market rate happens to be at the time, which will directly influence those market rates. And if it needs a lot of cash because there aren’t many workers relative to pensioners it will need to sell a lot of shares. Share prices went up because the GPIF was a huge buyer; if it were to become a huge seller, the opposite would happen. This is even true if the GPIF were to reduce its share allocation before the pension problem will reach its peak.

If the real economy tanks, it will hit tax revenues and the stock market at the same time: With the GPIF heavily invested there, the government finances and the pensioners will be doubly exposed.

For the GPIF to do well out of stock sales it will need a huge number of individual buyers, as it keeps liquidating its portfolio. But who is going to invest in stocks when they know the market will keep on getting flooded with sell orders for years to come?

Instead of addressing the real problems, the government of Shinzo Abe has been using smoke and mirrors to con the public. While pensions are no more secure than before, a lot of stock market investors have made a mint out of the BoJ-financed buying binge, enriching wealthy Abe supporters.

There are no easy answers to the pension problem. As the age pyramid changes and inverts itself, lots of things will have to change. For one, the retirement age needs to increase to re-balance the number of workers vs. pensioners. Japan will need to open its doors more for immigration. We’ll all have to work more years and the sooner the changes are made, the less painful it will be later. More emphasis will have to be put on covering the minimum needs of retirees vs. tying payments to previous income levels and contributions. Wealthier pensioners will have to make bigger sacrifices. The necessary steps will be painful and controversial, but they are unavoidable. Smoke and mirror “Abenomics” are no way around that.

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