The Ice Cracks In Europe And Japan

It's about time. After three years of recession, the crucial economies of Japan and Europe are showing some clear signs of revival. Key indicators ranging from housing starts to orders for electronic goods hint at recovery in Japan. Even Japanese consumers are spending again. While there are some sharp variances from country to country, Europe is getting its boost from rising exports, lower interest rates, and corporate restructuring. For both Japan and Europe, it looks at best like a long, slow climb. But even that is welcome news for a global economy that has been relying on the U.S. for most of its growth.


The Mar. 22 announcement seemed like just more bad news from Tokyo: Japan's economy had shrunk by 2.2% on an annualized basis in the last quarter of 1993. But it was actually good news, since experts had been expecting much worse--as low as -3.4%. That number, along with other hints of a pickup in sectors ranging from housing to consumer spending, are putting a whiff of comeback in the new spring air after three years of decline (table).

Some economists remain cautious, but the opinion is growing that recovery is imminent. "Many people feel the Japanese economy has hit bottom," says Hiroo Kinoshita, an executive vice-president at Sumitomo Corp. At Salomon Brothers Asia Ltd., Economic Research Director Robert Alan Feldman puts his forecast for fiscal 1994 growth at 1.1%. "The debate is on the pace. Everyone sees recovery."

Several indicators support such optimism. Housing starts head the list. They soared in January, rising fully 21% from the previous year for a heady three-year high. In Matsumoto, northwest of Tokyo, Rinyou Inc.'s housing division is doing brisk business in imported wood products for increasingly popular Western-style homes. Benefiting from low mortgage rates and a strong yen, Rinyou Managing Director Akira Tonouchi says sales are growing at a 40% annual clip and profits at 30%. Among the spin-off effects: Washing-machine sales rose by 5.5% last year, and refrigerator sales were up by 2.5%.

ELECTRONICS SURGE. After construction, the electronics industry is helping to lead Japan's incipient recovery. Spurred by rising appliance sales at home and surging demand overseas for semiconductors, liquid-crystal displays, and video monitors, such majors as Hitachi, NEC, Fujitsu, and Mitsubishi Electric are gunning for profit gains in the coming fiscal year. As Keiichi Yoshida, manager of NEC Corp.'s treasury division, points out, much of the improvement will reflect strengths overseas. But the psychological reverberations from fatter profits, presumably followed by higher bonuses, could help revive consumer sentiment.

Household spending already is up. It rose by 0.8% in the last quarter of 1993, for the first time in almost two years, helping to boost imports--up by 7% in dollar terms in February. A recent poll by the Economic Planning Agency also shows faint gains in consumer confidence. And on Mar. 23, the Finance Ministry released a quarterly index showing an improvement in business confidence at major companies.

Among other upbeat signs are three straight monthly gains in machinery shipments and an expected rise in industrial production after an encouraging pop in January. Hopeful but less persuasive are January's declines in

unemployment, the jobs-sought-to-jobs-offered ratio, and the Japan Automobile Manufacturers Assn. forecast of a 3.4% increase in car sales next year.

Of course, even relatively sanguine observers leave room for a setback, especially if the yen soars or Japan's fragile political order disintegrates. These observers also worry that a recent trending up in long-term interest rates could quell the surge in housing starts and any renewal of capital spending, whose continuing decline remains a major concern. While their balance sheets are straightening out, banks are not lending aggressively, hurting small and medium-size businesses.

There are, of course, the bears. Tetsuo Tsukimura, chief economist at Smith Barney, Harris Upham International Inc. in Tokyo, says that "the bright spots are misleading. On balance, the economy is still contracting." Tsukimura, whose tea-leaf-reading record is better than many others', thinks that Japan is in a "depression," and he is predicting negative growth of 0.7% in the coming fiscal year. He worries most about the mounting pressures on Japan to cut its current-account surplus. That can come only from a stronger yen that hurts exporters or from drastic market-opening measures that would depress output, Tsukimura says.

But the experts fall mostly in the cautiously optimistic camp. Yasuko Niimura, deputy director-general for research at the perennially bullish EPA, sums things up this way: "We can't take confidence from any single indicator, but with all of them coming together, it could signal that a chance [for recovery] has arrived." With Japan a potential economic engine for the world, many will hope it's so.


From Spain to Scandinavia, CEOs are rediscovering a happy pastime. Abandoning their frustrating watch for Germany's Bundesbank to cut interest rates, they are finally witnessing something more comforting--rising corporate profits. Merrill Lynch Europe strategist Peter Sullivan sees profits higher everywhere in Europe this year, including a 32% boost in France, 39% in Germany, and 49% in Italy. In Sweden and Norway, he's looking for gains of 70% and a huge 1,400%, respectively.

After suffering through the nightmare of Maastricht miscues, currency chaos, and a crumbling competitiveness, Europe is glimpsing the end of its worst recession in four decades. The recovery is being led by higher exports to the vibrant U.S. economy, cheaper money from falling interest rates, and corporate restructurings that have boosted earnings. "Across industries, optimism is coming back," says Jean-Fran ois Ph lizon, chief financial officer of French glass and construction materials giant Saint-Gobain, where prices are firming and business looks better.

Europe's return to growth is good news for a global economy that has been firing largely on its U.S. cylinder. European Union gross domestic product could grow 1.3% this year, after contracting 0.75% last year. By early next year, France, Italy, and Germany should be on the way to matching the 2.5% growth rate Britain will log this year. With Japan stirring, Merrill Lynch's Sullivan sees potential for a "virtuous circle" in which rising exports lead to rising demand, boosting prospects for stronger global growth.

NEW LOOK. But while Europe's economic profile brightens, it bears only faint resemblance to that of the prerecession Continent. The collapse of the system of managed exchange rates has produced a European economy running at no fewer than five speeds (table). With 12% unemployment and massive public deficits weighing on the upturn, "the outlook is for underperformance," says Banque Indosuez economist Christopher Potts.

Even so, hope is returning. With improved cash flow and cheaper money, Philips Electronics has pared its debt from $8.7 billion to $4.6 billion. In Germany, moderate wage settlements by metal workers and public-sector employees could bring hourly wage gains below 2% this year, says Kermit L. Schoenholtz, Salomon Brothers' chief European analyst. That should help bring inflation down to 2% by next year, allowing the Buba to continue trimming short-term interest rates, now at 5.8%.

Similarly, Europe's exporters are making the best of the U.S. recovery. In 1993, German software maker SAP boosted exports to the U.S. to $140 million, up 150% from the previous year. Other key sectors are on the mend, too. Sir Anthony Gill, chairman of Lucas Industries PLC, says "the bottom has been reached" in Europe's depressed auto market. Italian computer maker Olivetti, with a workforce 38% smaller than five years ago, expects to break even in 1994 after years of heavy losses. Even beleaguered Air France enjoyed an 18% pickup in traffic through February.

TAX WOES. But there are some potential hazards ahead. A round of fiscal tightening and higher taxes could dampen consumer confidence in Germany, France, and Britain. Even the export boom has its limits. While Britain, Sweden, and Italy used freedom from German monetary policy to devalue currencies and help exports, "the boost is finished," says Richard Freeman, chief economist at British chemical maker Imperial Chemical Industries PLC. "Export growth will now have to come from increased demand." Still, Europe's recovery offers a golden opportunity. The recession exposed labor-market rigidities, excessive corporate taxes, and overly rich social programs that hurt competitiveness. New growth will provide leeway to tackle those problems without risking a political backlash. If EU leaders follow through, Europe could find its way to healthier finances and still-lower interest rates. That could turn the nascent recovery into a vigorous expansion.

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