“To me, the most beautiful word – and I’ve said this for the last couple of weeks – in the dictionary and any is the word ‘tariff’. It’s more beautiful than ‘love’, it’s more beautiful than anything”. Donald J Trump, 26th October 20241
Much of the mind of President Elect Donald Trump remains a mystery to many, even having observed the four years of his first Presidency, but one thing is clear to all: he loves tariffs. Now, on the eve of his second term in the White House, politicians, business leaders and investors are debating what an infusion of Trumpian bellicosity might do to global trade and markets. In few corners of the world is this more pertinent than in Japan; the US is its biggest export market by far.
Here we attempt to advance this debate, but also to broaden it beyond trade. Firstly, we will discuss potential US trade restrictions from a Japanese perspective, then how Japanese corporates might be affected by other mooted changes in US policy. Finally, we touch upon the likely macroeconomic ramifications of Trump 2.0 and what they could mean for Japan.
The Japanese perspective on US trade
The first question to ask is: why is the new Trump administration straining at the leash to impose tariffs on its biggest trading partners anyway? In some speeches, the President Elect has suggested that it is all about punishing the origin states for an influx of migrants and narcotics.2 Japan is a source of neither. Another school of thought is that American tariffs are the modern gunboat to be used to open up foreign markets protected by tariffs of their own. Perhaps but if so, Japan would hardly be the primary target; Japanese tariffs are low especially on non-agricultural goods.3 If US manufacturers struggle to sell into Japan, it is not because of trade restrictions – take the zero tariffs levied on US cars in Japan but the almost total absence of them on Japanese roads as at least anecdotal evidence.
A more likely source of Presidential umbrage is the US’ off-kilter trade balance, especially with major strategic rivals. The idea that America makes too little and imports too much is evidently a vote-winner. It might also be true, but here again Japan seems not to be the problem; over the last twenty-five years, Japan’s share of US imports has dwindled from near 12% to more like 4% today.4 The US’ problem is China, and to a lesser extent Mexico and Vietnam, with all of whom the US has a significantly higher trade deficit than it does with Japan.5
Let us not forget that Japan is the major strategic ally for the US in East Asia, a classic unsinkable aircraft carrier on China’s doorstep. If the US would like Japan to spend a greater proportion of its national income on defence, then surely it would be wise not to put too much stress on that income in the first place?
All of this is to say that when tariffs are being imposed, it would make little sense for the US to treat Japan too harshly. It certainly seems likely that China will take a punishment beating but could Japan cut a deal better than the Mexicans or Canadians? Possibly. Either way, the idea that Japanese firms will be subject to lower tariffs than, say, Chinese companies is meaningful. In cases where Chinese makers are the key competitors on the other side of the Pacific such differential tariffs could even be a boon for the Japanese, driving customers towards them in the absence of US alternatives.
Some have even suggested that a flight of manufacturing from China could benefit Japan because it is a potential alternative destination.6 We are more circumspect on this point. As stock-pickers we will need to be alive to the company specific friction arising from the disentangling of supply chains7 and relocating of production away from China.8
Of course, just because a company is headquartered in Japan or the US does not mean that it makes its products there. Nowhere is this seen more clearly than in the automotive sector where Japanese localisation to the US, along with American makers’ offshoring, means that tariffs would hurt Ford and GM more than they will Toyota and Honda, according to veteran auto analyst Chris Richter at CLSA.
Japanese localisation does not begin and end with the car makers. Over the last forty years, Japanese manufacturers have responded to a combination of dwindling home demand, existing tariff barriers and, until a decade ago, a strong Yen by building factories where they sell, not least in the US. Over the last decade Japan has become the leader in accumulated foreign direct investment (FDI) into the US, and the US has become the leading destination for FDI from Japan.9
Cumulative foreign direct investment (FDI) into US ($bn)
Cumulative Japanese investment by destination (¥bn)
There is much to consider for the stock-picker, then, but for the asset allocator considering whether Trump-powered tariffs might be disproportionately painful for Japanese companies, there are several reasons to be cheerful. Moving on from trade, what are the other potential implications of the next Trump term? This is where we direct our attention next.
Looking beyond trade
Vying with trade as the number one issue for the new administration is immigration. Or, perhaps more accurately, exmigration because the Trump White House aims not only to clamp down on illegal immigration but also to remediate what it considers to be many years of a blind eye being cast by deporting millions of undocumented migrants.10
Putting the fraught politics of this issue aside, one thing seems clear – the rounding up of undocumented migrants will tighten the labour market in a stroke and cause problematic shortages in sectors where migrant labour is most heavily used.11 As discussed previously in these pages, Japan has never been as welcoming to migrant labour as the US or any other Western economy. Under this labour autarky has emerged a corporate sector adapted to labour insufficiency and at times designed specifically to ameliorate it. Automation companies like Fanuc, Mitsubishi Electric and Daifuku will be only too willing to help US manufacturers out of the bind, so too will Kubota on the agricultural side.
Defence-related companies – in a Japanese context always conglomerates – will not have been disappointed by Trump’s victory last month. The recent bounce in Japanese defence spending, shown in the chart below, is a function of mounting geostrategic uncertainty but will surely be supported by a Trump administration which has been outspoken in the past regarding the one-sided nature of the US’ defence guarantee to its Asian ally.12
Japanese defence expenditure, aiming for 2% of GDP by March 2028
Meanwhile, green tech companies may be more cautious about the future given Donald Trump’s pledge to roll back environmental regulations and to focus upon the oil and gas sector.13 For example, Panasonic which makes battery cells for Tesla electric vehicles in the US will be weighing up the pros of its US production and customer base with the potential very significant con of its reliance upon Inflation Reduction Act subsidies.14 In truth, Japan’s own geology – a lack of significant Japanese oil and gas reserves – mean that there is little industrial heritage in that sector. If the new policy is to “drill, baby, drill” then there will be few obvious Japanese winners.15
Will “Trump 2.0” be good for growth?
To finish, let us climb to a higher altitude and consider what a Trump-determined macroeconomy might mean for Japan. The crudest analysis of Trump is to say that he is a ‘pro-growth’ President. Crude, but potentially accurate and if so, possibly meaningful for Japanese investors. Japan is often seen as a geared play on global economic conditions – another crude truth, but indeed global manufacturing purchasing managers index (PMI) data has a reasonable record as a leading indicator of Topix direction.16
So, if Trump is indeed a ‘pro-growth’ President, that could be good news for Japanese investors…presuming, that is, that any trade restrictions as discussed above don’t kill that growth stone dead.
No discussion of Japan would be complete without due attention being paid to the potential future strength or weakness of the Yen. Needless to say, we encourage our clients to make up their own minds, but that said, we think that what is really meaningful to the Yen is the real US interest rate, which historically has been closely correlated with the JPY/USD exchange rate.17
If Trump can be taken at his word, inflation is to continue to fall, and interest rates will be low – in which case a rally in the Yen could be predicted. Given how cheap Japan feels at the moment with the Yen so depreciated, this would feel like a correction. If, however, the limits of executive power fall short of prices and monetary conditions, then tariff-induced inflation and higher rates could be the conclusion. In which case, expect the Yen to continue to be weak. We are aware that this ‘maybe this, maybe that’ sketching out of future scenarios may seem unhelpful, but the coin is in the air, and we have little conviction in one outcome over the other.
The word ‘tariff’ is not, to us, the most beautiful but neither does it elicit the chill up the spine that many might presume. Japan is a friend to the US, and no longer its major irritant in trade. It is the source of neither illegal immigrants nor drugs. It would make sense for Japan to be spared the worst of a new US tariff programme. Either way, Japanese companies’ localisation of production should provide considerable cover and even a competitive advantage against Chinese and other global makers. A tighter US labour market might benefit many Japanese companies, as could a push towards greater defence self-sufficiency. A shift away from green technologies towards hydrocarbons might be less of an investible trade for Japan. Whether Trump 2.0 is good for growth or the Yen is a coin-flip on ‘MAGA’. For an election result which inspired tears of both sorrow and joy, we find ourselves as investors ambivalent if not indifferent to its outcome.
Footnotes
1Joe Rogan Experience #2219 - Donald Trump
2Trump threatens China, Mexico and Canada with new tariffs - BBC News
3Nicholas Smith, Benthos, CLSA, 29 November 2024
4Sean Darby, Wider World, Mizuho, 14 November 2024
5Nicholas Smith, Benthos, CLSA, 29 November 2024
6Japan can become one of the biggest winners of the Trump era - Nikkei Asia
7Ricoh to shift some China production to Thailand to avoid Trump duties - Nikkei Asia
8Japan, South Korea struggle to reduce reliance on China tech materials - Nikkei Asia
9Sean Darby, Wider World, Mizuho, 14 November 2024
10Trump confirms plan to declare national emergency, use military for mass deportations - ABC News
11Business owners warn Donald Trump’s deportation plan could shut them down
12Trump says 'unfair' defense treaty with Japan needs to be changed | Reuters
13How Trump’s second term will affect climate and environment | UCLA
14Panasonic's battery unit benefits from US subsidy as weak EV demand to impact sales
15“Drill, baby drill…” Donald Trump promises more oil extraction in America at RNC 2024
16Nicholas Smith, Benthos, CLSA, 22 November 2024
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