Japan: Some quick thoughts on Abenomics
This is just a quick follow-up for members to the last post on debt deflationary dynamics in Europe and the contrast to policy in Japan. I think Yanis Varoufakis has it right that Europe is on the same path as Japan but just not as far along the path. And I would say the same is largely true of the United States.
If I were conducting policy, I would see private debt as the critical variable and look to reduce private debt as much as possible without also ballooning public debt in the process. To date, Japan has had a stop-go policy of trying to undertake fiscal stimulus to reflate the economy until it feels it is safe to withdraw that stimulus. Monetary policy has just been another tool to aid in that reflationary effort. So far this is a failed policy effort as Japan is stuck in a deflationary trap with government debt to GDP at an astronomical 238% of GDP, with demographics bearing down on the economy in a negative way. The key here is that Japan could have dealt with this more swiftly had the country understood that private debt was the problem. Instead, it has attempted to socialize losses by leveraging up the public balance sheet, without ever really accepting that the private debt was too large to prevent continued private deleveraging from dragging down the demographically-challenged growth figures further.
The question for Japan now is whether it can extract itself from the deflationary trap without sparking such high levels of inflation that the economy is dragged down. As yet, I don’t see where this inflation is going to come from. Over the past two decades we have seen Dollar/Yen at much higher levels and it didn’t spark inflation then. Why is it any different now? In the initial attempt to remove the deflationary impulse dollar/yen went to 150 and we still didn’t get stagflation, hyperinflation or anything approximating this. In fact, Japan’s economy went back into recession after stimulus was removed and the deflation only began in earnest subsequently.
As I see it, the key here from an inflation and currency perspective is real interest rates. And those depend on inflation, which in turns depends on factor utilisation and output. So really what has to come first is rising output on a sustained basis that puts Japan at or near full capacity. Otherwise, you won’t see any inflation that doesn’t simply lead to renewed private deleveraging and recession.
Were I making policy, I would be actively looking to get debts in the private sector written down and to get zombie companies and banks out of the economy, competing with their better capitalized and more efficient brethren. How can you expect the economy to grow when the government is subsidizing failure?
Anyway, that’s my little soapbox rant for the day. I usually don’t put my own view forward as much because it is more important to understand what will actually happen as opposed to what I want to happen. The former makes you money. The latter does not. But in Japan, it really is not clear yet what will happen. This is an experiment we have never seen before. And we cannot know with certainty how much resolve the government has in pursuing its aims. I have already heard about disquiet in the ranks of the Bank of Japan. So it’s entirely possible that we are just seeing another stop-go move that will end in failure.
For the time being, it’s guns blazing – policy stimulus, continued low interest rates, and more net financial assets added to the private sector. That will continue to be bullish for shares and moderately negative for bonds.
Below are some good recent articles on this.
“”The BOJ dealt with short-term volatility in bond prices by adjusting its market operations,” Kuroda told reporters after a two-day meeting of G7 finance officials.
“I do not expect a sudden spike in long-term bond yields. In the long-run, if the economy recovers and inflation heads towards two percent, we might see nominal interest rates rise but that’s natural.””
“”It’s a huge game change, and there’s a lot more room to go,” Loeb said of the yen’s decline. “The structural reform, which should be announced before the election, is going to really be the big game changer over there.”
Loeb did not make any specific recommendations on where to invest in Japan but compared the growth to the 1980s before the country began its “Lost Decade.”
“We have the potential to get this right, to have a similar kind of massive improvement in the performance of Japanese corporations with the backdrop of the support of government,” he said. “It’s a really critical time.””
“The galvanising effect of the March 2011 tsunami was not immediate. The Japanese initially headed off a potential energy crisis – following the shutdown of all the country’s nuclear plants – by pulling together to cut energy consumption. Yet industry’s concern about an expensive and erratic energy supply raised the spectre of a mass exodus. Businesses were already complaining about the high yen, steep corporate taxes, lack of trade agreements and stiff emissions targets. For the first time in a generation, there were genuine questions about whether whole industries would decamp.
The second factor has been China, whose economy overtook Japan’s in 2010. Beijing has become increasingly assertive over its claims to the Japanese-administered Senkaku, five uninhabited islands known as Diaoyu by China. In the run-up to Mr Abe’s election as leader of the Liberal Democratic party – a prelude to the premiership – violent anti-Japanese demonstrations broke out in more than 50 cities across China. If Japan has found a leader with a sense of purpose, it might have China to thank for it.
The link between fears over its security and a sense of economic weakness is old and deep. “
“Kyle Bass of Hayman Capital, a $1.8bn Texas-based hedge fund and a noted Japan bear, said signs of the crisis had started to emerge, as banks and dealers become less willing to take the other side of negative bets from funds such as his.
Mr Bass said that the Japanese government was “insolvent” and described recent accounting moves that included issuing a new form of debt called Japanese compensation bonds as “adding a Ponzi scheme to a Ponzi scheme”.”
“It is just a matter of time until the rest of the world catches up with the reality of how Japan’s experiment affects them. The hope is that, bolstered by evidence of Japan’s serious pursuit of structural reforms, they will accommodate the experiment in two ways: by not retaliating, and by undertaking their own domestic reforms that compensate for the output lost to Japan. In other words, a growing pie for all better accommodates all.”
“Recently, Japan has been making the news with reports that its new leaders – the new prime minister and the new governor of the Bank of Japan (BoJ) – have joined forces to stop their nation’s so-called ‘lost decade’ from turning into three lost decades.
What makes the escapade remarkable is not just the size of their commitment but also their starting point: Japan’s national debt is by far the highest in the civilised world, making the decision to allow the budget deficit to rise to more than 11 per cent in 2013 the boldest Keynesian move since Ronald Reagan’s expansionary fiscal policies in the early 1980s.
Similarly, the BoJ’s decision to spend $1.5 trillion in order to accomplish in two years what Ben Bernanke’s Fed did during the past six years of ‘quantitative easing’ (and without controlling the world’s reserve currency) is perhaps even more daring.
Turning to the eurozone we are faced with another audacious experiment. In an aggregate economy that is in recession, the deepest austerity is being imposed upon the fastest shrinking national economies (that make up the eurozone), while the European Central Bank (ECB) is watching idly, too neutered by Berlin, and too constrained by its charter, to follow ECB president Mario Draghi’s instincts.”
“the competitive devaluation arising from Abenomics may be the catalyst to kick start the ECB into more serious efforts if they care about the Eurozone’s external competitiveness. The ECB may ease to keep the Euro from getting too expensive and in the process shore up European domestic demand. How ironic it would be if Abenomics were to accomplish in the Eurozone what intense human suffering could not: moving the ECB to forcefully act. “