Japan seems to be experiencing inflation now. Is this good or bad for the stock market?

Okay, let's talk about this. This is indeed a core concern for many people looking at the Japanese market right now.

Simply put, it's like two sides of the same coin: in the short term, it's a stimulant; in the long term, it's a test. Whether it's ultimately good or bad for the stock market depends on the "type" and "extent" of inflation.

Let's break it down:

Why is it Good? (The Optimistic View)

Imagine the Japanese economy as a "Sleeping Beauty" who has been asleep for over thirty years. Deflation (things getting cheaper) was the spell that kept her asleep. Now, inflation is like the kiss that wakes her up.

1. Breaking the "Deflationary Mindset"

   • The Past: For decades in Japan, people got used to prices not rising, or even falling. What would you think as an ordinary person? "This shirt might be cheaper next month," "I'll wait to buy this TV." And companies? Unable to raise prices, they hesitated to invest or raise wages. Employees, without more money, became even less willing to spend. This created a vicious cycle.
   • The Benefit Now: Moderate inflation makes people feel that "money sitting idle loses value, so it's better to spend or invest." Companies, seeing rising prices and increased revenue, become more willing to invest and raise wages. This could kickstart a virtuous cycle: "increased consumption -> companies make more profit -> employees get raises -> consumption increases further."

2. Increased Corporate Profits

   • Most directly, inflation means the prices of goods and services rise. For companies, as long as costs are controlled, selling goods at higher prices naturally leads to increased revenue and profits.
   • When corporate financial reports look better and profitability improves, the stock price, as a "certificate of value" for the company, naturally has upward momentum.
   • Add to this the recent "significant boost" of yen depreciation. For major Japanese exporters like Toyota and Sony, this is a double win. The dollars or euros they earn overseas convert into more yen, making their reported profit figures look very strong.

3. Hope for "Shunto" Wage Hikes

   • Japan has annual labor-management negotiations each spring called "Shunto." Against the backdrop of inflation, unions have stronger grounds to demand wage increases, and companies, with increased profits, have both more capacity and more pressure to meet these demands. The "Shunto" negotiations in both 2023 and 2024 resulted in the largest wage increases in thirty years. This is the most crucial step in breaking the vicious cycle mentioned earlier.

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Why is it Bad? (The Pessimistic View)

Everything has its limits. Inflation is like fire; handled well, it's "a fire in winter," but handled poorly, it can burn the house down.

1. The "Origin" of Inflation is Wrong

   • The ideal inflation is driven by strong demand, where people are eager to buy things, pushing prices up (demand-pull inflation).
   • But a large part of Japan's current inflation is caused by rising international energy and raw material prices (cost-push inflation). Simply put, it's not because Japanese people suddenly started spending more, but because costs like factory electricity and materials have risen, forcing companies to raise prices.
   • In this scenario, if companies cannot successfully pass these increased costs on to consumers, their profits will be squeezed instead, which is bad for stock prices.

2. Wages Lagging Behind Prices

   • This is the biggest risk. If the pace of price increases far exceeds the pace of wage growth, the actual purchasing power of ordinary people decreases.
   • If your monthly wage increases by 3%, but you find the cost of food, clothing, and daily necessities has risen by 5%, wouldn't you feel worse off? You might tighten your purse strings and cut unnecessary spending. This prevents the "virtuous cycle" mentioned earlier from starting and could even push the economy back into stagnation.

3. The Central Bank May "Tighten" Policy

   • For decades, to combat deflation, the Bank of Japan (BOJ) has maintained ultra-low, even negative, interest rates, flooding the market with liquidity ("releasing water") and making borrowing extremely cheap. This was a key reason for past stock market gains.
   • Now that inflation has arrived and seems likely to persist, the BOJ is forced to consider ending this "unlimited easing" policy and may even start raising interest rates.
   • Rate hikes are typically bad news for stocks. On one hand, the cost of borrowing for companies to expand increases; on the other hand, as bank deposit interest rates rise, some funds will flow out of the stock market into banks, reducing the stock market's appeal.

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To Summarize: What's the Situation Now?

Currently, the Japanese stock market (e.g., the Nikkei 225 hitting record highs) is clearly celebrating the "good side."

The market prefers to believe:

• Japan has finally emerged from its "lost decades."
• Yen depreciation and moderate inflation are supercharging the profitability of export-oriented companies.
• Wage growth will keep pace, ultimately forming a healthy economic cycle.

But the real test lies ahead.

The key is whether "wage growth" can be sustained and truly outpace "price increases."

So, you can think of it like this: The Japanese stock market is currently throwing a grand party, celebrating that the unwanted guest "deflation" has finally left. But whether the party can continue depends on whether people actually have more money in their pockets (wages), and when the new guest "interest rate hikes" will arrive, and how aggressively they will act.