Japan’s Potential Nuclear Impact on the Economic Recovery

In addition to the real threat of a nuclear disaster in Japan based upon damage sustained at a nuclear plant in northeastern Japan following the recent 9.0-magnitude earthquake, and ensuing tsunami, that decimated the Far East country late last week, collateral damage to the mounting global economic recovery is also expected.

Japan currently stands as the world’s third largest economy by Gross Domestic Product (GDP), behind only China and the United States.

Country                      Size of Economy as measured by GDP (in $ billions)

United States              15,157

China                           6,422

Japan                           5,683

Germany                     3,358

France                         2,590

Source:  International Monetary Fund, October 2010

Hence, Japan’s economic stability, and the purchasing power of its government and citizens, play a critical role in the ongoing global economic recovery.  Japan’s economy was far from stable prior to this earthquake and is anything but stable afterwards.  Early estimates put the potential losses from the natural disaster at the 14-15 Trillion Japanese Yen level – that equates to approximately 170 – 183 Billion U.S. Dollars!  This will likely force the Japanese Government, working with the Bank of Japan, to take a number of actions; including buying assets, injecting cash, keeping interest rates low and raising taxes, in order to maintain liquidity in their markets and pay for the portion of the damage that that Insurance Companies (who are already under pressure from the recent earthquake that occurred in New Zealand) will not cover.    These necessary expenditures may limit the Japanese Government’s willingness and ability to purchase further U.S. Treasuries which could then impact our own economic recovery efforts.

Whether the Japanese Government is successful in their efforts remains to be seen but it is fair to say that Japan is now facing one of its largest fiscal battles since World War II.

However, putting aside for a moment these concerns as well as the horrendous human toll of the 4th largest earthquake on record since the 1800s, there are also potential short-intermediate term positives that may come from this negative event.  We, at Hennion & Walsh, have identified four potentially positive economic and investment themes stemming from the Japan earthquake at this time:

1)      Recoveries from natural disasters have generally been positive over the intermediate term for the affected economies due to the reconstruction work necessary and the job creations that result from the rebuilding efforts.

2)      The crisis in Japan could alleviate some of the recent supply pressures related to the price of crude oil as Japan is one of the world’s largest importers of oil and may reduce their oil needs during their recovery from this tragedy.  Oil price pressures have also somewhat relented as of late as the threat of further “government protest contagion” seems to have slowed in the Middle-East (though tensions clearly still exist in Libya) as evidenced by the lack of a significant turnout during the planned protests in Saudi Arabia on March 11.

3)      The recent events in Japan and the Middle East should force Washington to re-visit our own country’s short and long term energy plans in terms of their effectiveness and viability.

4)      Many investors seem to be using these recent macro-shocks to perhaps take some profits, from a Bull Market that just reached its 2 year anniversary, off the table and more importantly re-visit their asset allocation strategies in an attempt to potentially add more diversification to their portfolios.

We tend to agree with the sentiment underlying Theme #4 above due to our consistent position regarding the importance of having a sound and robust asset allocation strategy in place within a diversified investment portfolio, incorporating a wide range of asset classes and sectors, given these uncertain, and often volatile, global markets.