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19 March 2011

Go East, Young Man

Tag(s): Foreign Affairs

On Monday last week I flew into Tokyo with fellow directors of the JP Morgan Japanese Investment Trust. I have been on the Board for eight years and each year we like to hold one of our board meetings in Tokyo to meet with the manager, analysts, companies, economists, journalists and our own personal contacts to get a closer understanding of what is happening in the Japanese economy.

That afternoon we met an analyst from one of the big banks who was making the case why this is the right time to get back into Japanese Real Estate as an asset class. After listening to his pitch and questioning him on the details one fellow director asked "Completely unfair question, but what would happen to your strategy if there was a major earthquake in the Tokyo region?” The analyst replied that Japanese building regulations were very demanding and the buildings were now constructed to withstand shocks like the great Kanto earthquake that caused such devastation in 1923. That had been 7.9 on the Richter scale and killed more than 140,000 people destroying Tokyo and other major cities. I asked him what percentage of buildings was built to the required standards. He thought it was about 70%. I then pointed out that such regulations were designed to protect life but that after a major shock it was likely that the buildings would have to be rebuilt.

That was on the Monday.

On the Wednesday we were back in the same room on the 26th floor of JP Morgan’s building in Tokyo holding our formal Board meeting. We were questioning our investment manager on how the Trust was positioned against risks such as a double dip recession, the continuing political problems in Japan, the enormous government debt and so on. He patiently answered all our questions insisting that he spent a considerable part of his time in thinking through such scenarios. At that point the building shook. I have been in several earthquakes having lived in California and Chile and it was clear this was not particularly strong. I could see elevators in the building opposite continuing to move up and down. Some colleagues had never experienced an earthquake before and were clearly concerned. It went on for several minutes and we later learnt that the earthquake had been 7.3 on the Richter Scale off the coast of Sendai about 143 kilometres from Tokyo.

We flew to Hong Kong that afternoon and thought no more about it. Although I did read about it in the local paper the following morning. After describing the event the article said “Japan is located on “the Pacific Ring of Fire” and dotted with volcanoes, and Tokyo is situated in one of its most dangerous areas. It sits on the intersection of three continental plates- the Eurasian, Pacific and Philippine Sea  which are slowly grinding against each other, building up enormous seismic pressure. The government’s Earthquake Research Committee warns of a 70% chance of an 8-magnitude quake in the next 30 years in the Kanto plains, home to Tokyo’s vast urban sprawl.”

After two days in Hong Kong I relaxed in my hotel room on the Friday evening reading and listening to music before driving to the airport for the midnight return flight. Only when I got to the lounge did I see on CNN that Japan had been hit by another earthquake, this time 8.9 on the Richter scale (later revised to 9.0) or in other words nearly 100 times more powerful that the one I had been in on the Wednesday. As I write this a week later we are still discovering just how disastrous this had been with first the earthquake itself, then a massive tsunami and finally considerable damage to a nuclear power station at Fukushima. I have great admiration for the Japanese but it is clear that even with their huge economic strength and tremendous technical abilities they are being greatly tested.

This was my 40th visit to the Far East and in that time there have been extraordinary changes. In 1980 when I first went to Japan it was riding the crest of a wave and saw that it was its turn to enjoy economic success. Now China is the one on the crest of a wave. We went to Hong Kong because JP Morgan now has its regional headquarters there and so Japan reports in to Hong Kong, even though 40% of the regional stock market capitalisation is still in Japan. In Hong Kong we were told that the emerging markets of India and China continue to set the pace while in the old world of the West with Japan growth is slow or non-existent. Actually on closer examination Asian growth has been correlated with the developed world but several points above it. Asian (excluding Japanese) government finances are very strong and their economies show very few signs of stress. UBS did a piece of work in May last year which shows that Hong Kong, China and Taiwan, Greater China in other words,  are the countries showing the least risk profile on a world basis while Spain, Portugal and Ireland show the most. Even Mexico and Argentina are at the low end of the scale while the UK is at the wrong end with several other European countries.

In China some trends are clear showing that there is still plenty of room for growth. Its urban population is close to its rural population with 300 million additional urban residents since 1990. Its household consumption has accelerated but labour’s share of GDP is still low. Of particular significance is its relative position on debt. In the US consumer loans already cover almost 100% of GDP while in the UK the figure is about 70%. In China and India it is only 10% or so. (Remember that in the UK Government debt is also 80% of GDP while this does not take into account all the off balance sheet liabilities like public sector pensions and Public Private Initiatives.)

China is no longer bent on growth at all costs. It is now setting the more moderate target of 8% pa growth, and of a more sustainable and higher quality. It is rebalancing towards domestic consumption with favourable polices in this area such as rising wages and a social safety net. Its average GDP per capita in 2009 was equivalent to that of Japan in 1973.

While in Hong Kong I was also able to attend the British Council Going Global Conference on Higher Education, the first time this event has been held outside the UK.  I may return to this in a future blog but a couple of statistics that stood out for me confirming this trend of economic rebalancing from the West to the East. 30 years ago zero Chinese studied in the USA. Now the number exceeds those from India. Hong Kong as a Special Administrative Region spends 24% of its budget on education, more than any other area of public finance. In the next 15 years it is estimated that 70% of all international students in the world will be studying in Asia. If I were to now offer advice to any young person it must be at least to think about what these trends mean for a person setting out on a career today.




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