The Economic Aftershocks of the Japanese Earthquake

The Economic Aftershocks of the Japanese Earthquake
Seeking Alpha

By David Zeiler

The 8.9 magnitude earthquake and resulting tsunami that hit northeastern Japan Friday had an immediate impact on financial markets all over the world. However, the effects of the damage and rebuilding will reverberate through the Japanese economy for months, if not years.

In the immediate aftermath of the earthquake, which struck in midafternoon, factories shut down, railways stopped running and roads, ports and airports closed. Markets remained open, but a lack of power and a disruption of the mobile networks curtailed trading after the temblor struck.

Some of Japan's biggest companies were affected:

• Nissan Motor Co., Ltd. (NSANY.PK) halted production at four factories in the area hit.
• Toyota Motor Corporation (NYSE: TM) closed two assembly plants and a parts factory.
• And Sony Corporation (NYSE: SNE) closed six factories.

"This is certainly the worst thing that can happen in Japan at the worst time," economist Nouriel Roubini told BloombergTelevision, noting that Japan's deficit is 10% of its gross domestic product (GDP) and repairing the damage from the quake will cost the country tens of billions, if not hundreds of billions of dollars.

Because Japan is the world's third-largest economy (as measured by gross domestic product), economic turmoil there soon ripples out to the global economy.

One immediate international consequence to the quake was a drop in oil prices, with oil dipping 3.6% to $99.01 a barrel in New York on Friday. In London, Brent crude dropped 2.8%.

The quake forced the closing of several refineries, including three operated by JX Nippon Oil & Energy Corporation (NPOIY.PK) that process 600,000 barrels a day. Japan normally uses a total of 4.42 million barrels a day, compared to U.S. consumption of 19.25 million.

"With Japan's economy decimated, it will constrict oil demand from Japan," Mike Fitzpatrick, editor of Energy Overview newsletter, told ABC News. "For the moment, the tsunami problem seems to have trumped Libya concerns apparently."

Concerns over the cost of the disaster slammed foreign insurance and reinsurance companies, with the stocks of several big reinsurers taking hits of 5% or more. Nevertheless, officials at major insurance companies don't expect huge losses.

While today's event is unique, it is worth noting that in the most recent major earthquake in Japan, the 1995 Great Hanshin-Awaji Earthquake in Kobe, the economic loss was estimated to be in the region of 2.5% of Japan's [gross domestic product] at the time and the insured loss was only in the region of $3 billion, which was mostly retained domestically,

James Vickers, Chairman of Willis Re International & Specialty, part of Willis Group Holdings PLC (WSH), told the Wall Street Journal.

In fact, investors already may be factoring recollections of the Kobe earthquake into their calculations.

The Japanese yen, which fell initially, quickly reversed its slide and closed stronger against the dollar as traders remembered that capital came flowing back into the country after the 1995 quake, boosting the yen to an all-time high.

Investors should also take heed of what happened to Japanese equities following the Kobe earthquake. Within six months of that January temblor, the Nikkei 225 index lost 25% of its value. But by the end of 1995, it had fully recovered.

Stocks will probably fall on Monday, especially of those companies that have factories in the affected areas. But on the whole the sell-off will likely be short-lived,

Mitsuhsige Akino, a fund manager at Ichiyoshi Investment Management,told Reuters.

One sector that stands to benefit is large construction companies, which outperformed the market in 1995. Sure enough, Kajima Corporation, a major Japanese contractor, was up 11% on the Tokyo Stock Exchange on Friday.

The Kobe experience also demonstrated how Japan, as a developed nation, has the resources to rebound from disasters relatively quickly.

Six months after that quake almost all of Kobe's factories had reopened and the city's infrastructure repaired. All the trains were running within nine months, and the port was 80% functional within a year.

Japan's biggest economic headache will be paying the bill.

"The government would have to sell more bonds, but this is an emergency, so this can't be avoided," Yasuo Yamamoto, senior economist at Mizuho Research Institute in Tokyo Yamamoto, told Reuters.