Japan’s Impact

Story Highlights:

• Japan’s massive earthquake and tsunami have created devastating damage in impacted areas.
• Impacted areas comprise about 1.4% of global GDP.
• Amazingly, even an event this tragic is likely to have minimal lasting global economic impact. Economies and capital markets are resilient.

The 9.0 magnitude earthquake that hit Japan last Friday—one of the five strongest on record globally—triggered a devastating tsunami that battered surrounding areas. As of now, the magnitude of life lost and damage are still unknown.

As tragic as the human toll of this event is, compounded by some very real short-term economic effects in Japan, the intermediate- to long-term global economic impact should be minimal. Japan accounts for 9% of global GDP, and the most severely impacted regions account for roughly 15% of Japanese GDP—so the directly affected region comprises about 1.4% of global economic output. Moreover, lost Japanese output from the incident will likely be offset some in the near-term by rebuilding efforts. The Japanese government already has rebuilding plans in the works, and the Bank of Japan (BOJ) has substantially increased its liquidity operations and doubled its asset purchase program.

A separate concern is the state of Japan’s nuclear reactors. Several of Japan’s nuclear facilities have been impacted and are currently offline.Headlines warn of another Chernobyl-like disaster. However, that’s highly unlikely thanks to advancements in nuclear technology. Radiation leaking from the facilities so far remains within legal operating limits and has declined from levels reported over the weekend. And the Japanese government has thus far been relatively transparent about what’s occurring. Contrast this to the Russian government’s response to Chernobyl, when they didn’t even warn residents to evacuate. (Note, too, global stocks barely blipped on Chernobyl and were up 42% in 1986.)

However, Japan’s electricity infrastructure has been significantly impacted with rolling black-outs expected to last into April. Nuclear accounts for 30% of Japan’s electricity generation and 17% of generation capacity. The quake impacted approximately 25% of that. In the short term, shortfalls will likely be met by increased petroleum generation (much coming from off-the-grid diesel generators). But a third of domestic refining capacity was affected by the disaster. As a result, the country will be increasingly reliant on petroleum imports. Longer term, natural gas-fired plants may become increasingly important, possibly boosting Japan’s liquid natural gas imports, since they themselves have no domestic natural gas reserves.

The quake’s capital market impact so far has been most notable in Japan. The Topix Index closed down 7.5% Monday, driven by Utilities (-10%), Technology (-8.9%), and Financials (-8.8%). Equity markets elsewhere have been much less affected relatively—a number of Asian markets, including China, Korea, India, Indonesia, and Thailand, were actually up on Monday. There will be winning and losing sectors and individual stocks as a result of the destruction and subsequent rebuilding. In fact, select industries and companies sold off severely on the news while others rallied sharply, even within Japan.

It may be hard to envision how such intense destruction can have so little global consequence. But recall, in terms of utter surprise and devastation, there are some similarities to the 9/11 terror attacks on America—though the human toll in Japan is likely much higher. That was a strike on the world’s largest economy in the heart of its systemically important financial center. Stocks fell sharply afterwards, but after bottoming on September 21, 2001, rallied strongly through year-end. US stocks were actually positive in Q4 2001, and global stocks were just flat. The bear market did resume in 2002, but its roots were in the Tech bubble, not the terror attacks. Plus, the recession that started March of that year ended in November, less than 2 months after the attack. If that attack couldn’t exacerbate an ongoing recession, it’s hard to envision how Japan’s tragedy has a tremendously lasting global economic impact. There are other examples of devastating natural disasters—the 1900 Galveston hurricane which may have killed upwards of 30,000 and flattened the then-vital port town. The San Francisco earthquake and fire in 1906, Hurricane Camille in 1969, one of only three category 5 hurricanes to ever make landfall in the US. The Kobe earthquake in 1995. The Christmas tsunami in 2004. The one-two punch of Hurricanes Katrina and Rita in 2005. Chile’s devastating earthquake last year. We can’t predict how, when, and where capricious Mother Nature will strike. But fortunately, economies and capital markets have proven resilient—that’s true globally.