Guest Post: Land Of The Setting Sun

Tyler Durden's picture

Submitted by Jim Quinn of The Burning Platform

Land Of The Setting Sun

The linear thinkers that dominate the mainstream media and the halls
of power in Washington D.C. are assessing the series of disasters in
Japan without connecting the dots of history. Their ideological desire
to convince people that things will go back to normal in short order
flies in the face of the facts. It makes me wonder whether these
supposed thought leaders lack true intelligence or whether their
ideological biases convince them to lie. At the end of the day it comes
down to wealth, power and control. If those in power were to tell the
truth about the true consequences of demographics, debt, disasters, and
devaluation, their subjects would revolt and toss them out. Before the
multiple disasters struck Japan last week, the sun was already setting
on this empire. The recent tragic events will accelerate that descent.  

 

Japanese Beetle Meet Windshield

 

Smart financial minds have been expecting a Japanese economic tsunami
for the last few years. John Mauldin described Japan’s predicament in
early 2010:

“I refer to Japan as a bug in search
of a windshield. I am not so sure about the timing, however, as the
economic and fiscal insanity that is Japan may be able to go on for
longer than many think possible. But to me it is not a question of
whether there will be a crisis, but when there will be one. This year?
2011? 2012? I doubt Japan makes it to the middle of the decade with a
very serious and sad day of reckoning.

The downside to the continuation of
running massive deficits is that when the break does come, it will be
all the more painful and difficult to deal with as the debt mounts. If
there is an upside, it is for the rest of the world to see what can
happen to a developed country like Japan when massive deficits are
allowed to pile up one after another. It will be a morality play writ
large upon the walls, which cannot be dismissed.”

Ambrose Evans-Pritchard expected a 9.0 debt earthquake to strike Japan in 2010:

“Weak sovereigns will buckle. The
shocker will be Japan, our Weimar-in-waiting. This is the year when
Tokyo finds it can no longer borrow at 1% from a captive bond market,
and when it must foot the bill for all those fiscal packages that seemed
such a good idea at the time. Every auction of JGBs will be a news
event as the public debt punches above 225% of GDP. Finance Minister
Hirohisa Fujii will become as familiar as a rock star.

Once the dam breaks, debt service
costs will tear the budget to pieces. The Bank of Japan will pull the
emergency lever on QE. The country will flip from deflation to incipient
hyperinflation. The yen will fall out of bed, outdoing China’s yuan in
the beggar-thy-neighbor race to the bottom.”

Mr. Pritchard was either wrong or early, depending upon your point of view.  

                                       JAPAN INTEREST RATES

Japan can still borrow for 10 years at 1%. Despite the highest
government debt as a percentage of GDP on the planet at 225%, Japan has
not felt the wrath of the bond vigilantes. Not only did the Yen not fall
out of bed, but it soared to a post-war high against the USD last week
after the earthquake/tsunami. Investors drove the value of the yen
higher, anticipating a huge rebuilding program in Japan. Japanese
financial institutions would need to convert foreign assets into yen to
pay for damage claims and construction expenses, a process that would
strengthen the currency. In anticipation, investors piled into yen,
helping drive up its value. Central banks across the globe intervened
and weakened the currency, for the time being. When the world comes to
its senses, the Yen will weaken on its own.

Japanese Yen (JPY) to 1 US Dollar (USD)

Debt & Demographics

 

Japan is a one trick pony that just broke two legs and is waiting to
be put down. They have experienced a two decade long recession. Their
stock market is still 70% below its 1990 peak. They have no natural
resources. They allow virtually no immigration. And their population is
in a death spiral. The one and only thing they have going for them is
their phenomenal ability to manufacture high quality products and export
them to the rest of the world. The earthquake and tsunami that struck
Japan severely damaged their just in time manufacturing machine. A
surging yen would destroy their export machine by making their products
more expensive. Hundreds of high tech Toyota, Honda, and Sony factories
are shut. Four hundred miles of ports and harbors have been wiped out.
There are rolling blackouts, with one million households without
electricity. Over 500,000 people are still homeless.

The short-term impact of this disaster will push Japan into
recession. The rebuilding efforts over the coming years will create a
positive GDP figure, but will not do anything to benefit Japan over the
long haul. The billions designated to rebuild will be money not invested
in a more beneficial manner. The linear thinkers conclude that over the
long-term Japan will be OK. These people are ignoring the double D’s –
Debt and Demographics. When Japan entered its two decades of recession
and experienced the Kobe earthquake in 1995, its government debt stood
at 52% of GDP. Today it stands at 225% of GDP. Twenty one years ago, the
Japanese population was still relatively young, with only 12% of the
population over 65 years old. The population of Japan peaked in 2004 and
now is in relentless decline. Over 23% of the population is over 65 and
the median age is 45 years old. For comparison, the median age in the
U.S. is 37 years old, with only 13% over 65. The projection portion of
the chart below paints a picture of death. The population of Japan is
aging rapidly and will decline by 4.4 million, or 3.5% in the next ten
years. 

Table 2.2 Trends in Population

The question I pose to the mainstream thinkers is, “How can a country
with a rapidly aging population and nearly one quarter of its
population over 65 years old generate the necessary dynamic enthusiasm
for rebuilding a shattered country?” Youthful enthusiasm and hope for a
brighter future is essential to any enormous rebuilding effort. Japan
does not have it in them. News reports already indicate a lethargic and
seemingly insufficient response by emergency workers. The devastation
seems to have overwhelmed this aging country. The psychological impact
of this type of natural disaster will likely have two phases. Psychology
professor Magda Osman describes the expected human response:

“After a disaster, typically small
communities become incredibly co-operative and pull together to help
each other and start the rebuilding process. There’s an immediate
response where people start to take control of the situation, begin to
deal with it and assess and respond to the devastation around them. The
problem is that we aren’t very good at calculating the long-term effects
of disasters. After about two months of re-building and cleaning up we
tend to experience a second major slump when we realize the full
severity of the situation in the longer term. This is what we need to be
wary of because this triggers severe depression.”

This would be the normal response of a traumatized populace. An aged
populace is likely to experience worse depression and not bounce back
from this tragedy. Japan is still the 10th most populated country on
earth, with the 3rd largest economy. China just passed Japan to become
the 2nd biggest economy in the world. India will pass Japan by 2012.

Table 2.1 Countries with a Large Population (2009)

Youthful countries across the world are gaining on Japan. The wisdom
of the elderly doesn’t cut it in a global economy. Global competition is
cutthroat. China, India and the other emerging Asian countries will
take advantage of Japan’s misfortune by filling the hole left by
Japanese manufacturers. The short-term issues of power, supply lines,
and reconstruction are minor when compared to a mass die off of the
Japanese population that will result in a population that is 25% smaller
in 2050 than it is today. Demographics are a bitch. 

Figure 2.4 Proportion of Elderly Population by Country (Aged 65 years and over)

With the amount of debt hanging over the Japanese empire, it might be
a good strategy to commit hari-kari. The non-thinking pundits on CNBC
contend that since Japan hasn’t had any detrimental effects from running
their debt to 225% of GDP, running it to 300% won’t be a problem.
Reinhart and Rogoff studies concluded that once a country breaches the
90% level, growth slows and a debt crisis is likely to ensue. Japan has
been stuck in a 20 year recession, as they chose Keynesian shovel ready
projects, quantitative easing, currency manipulation, and covering up
the true financial condition of its banks over accepting the
consequences of a debt bubble. Remind you of anyone? The result is their
real GDP is lower today than it was in 1995. The Paul Krugmans of the
world would contend that they just didn’t spend enough.

 

The only reason Japan has not collapsed is due to its homogeneous
population willing to buy virtually all of the debt issued by its
government for the last twenty years and its prodigious ability to
produce high quality products that the rest of the world wants. Japan
has maintained a consistent trade surplus, and its government debt has
been held mainly by its own people, with 95% of Japanese government
bonds in the possession of Japanese, meaning the country was able to
finance itself without depending upon fickle foreign investors who might
prefer a return greater than 1%. This ain’t 1990. The savings rate of
the Japanese population had already declined from 14% in 1990 to 2% by
2008. In a recent article, Mike Shedlock explained the situation prior
to the recent devastation:

“The Government Pension Investment
Fund, which oversees 117.6 trillion yen ($1.4 trillion), in September
forecast that it would sell 4 trillion yen in assets in the business
year ending March 31 to fund payouts. Sales by the fund, which helps
oversee public pension funds for Japan’s 37 million retirees, come as
the first of Japan’s baby boomers is set to turn 65 in 2012, making them
eligible for pension payments. Japan choices are to default on its
debt, print money to fund interest on the debt, raise taxes effectively
robbing savers of their money, or undertake huge spending cuts. The
dilemma stems from years of Keynesian and Monetarist stupidity.”

The new tragedy will just accelerate the conversion of Japanese
savers into forced spenders. Millions of Japanese savers will be forced
to spend their savings on survival, as many have lost their jobs and
businesses due to the monumental damage to northern Japan.

Setting Sun – Race to the Bottom

 

Traders figured out what must happen over the coming years. A large
swath of Japanese insurers and companies will begin repatriating assets
held in other currencies to begin the rebuilding effort at home, driving
the value of the Yen higher. At a time of crisis a stronger Yen would
severely damage Japan’s export based economy even further. Therefore,
Central Banks around the world jointly intervened. The Bank of Japan
spent Y2 trillion ($25 billion), while central banks across Europe
contributed $5 billion and the Federal Reserve spent $600 million to
push down the yen on Friday. The Bank of Japan is doing what they do
best - printing money. Quantitative easing is an art form perfected by
all Central Banks across the globe. Every disaster over the last twenty
years, whether man made (wars, internet collapse, housing collapse, debt
meltdown) or caused by nature, are met with the exact same solution – PRINT MONEY.

This method works until it doesn’t work. Japan’s central bank cannot
reverse the demographics. From this point forward the population of
Japan will be net sellers of government debt. Japanese insurance
companies will be on the hook for $33 billion in claims. They will need
to sell government bonds in order to make those payments. The World Bank
has estimated the cost of rebuilding to be $235 billion. The government
will need to borrow this money. At least 30% of its energy needs are
off-line. It already imports 95% of its oil and coal. They will need to
increase energy imports to make up for the nuclear energy shortage. Its
positive trade balance was already in decline.  The clueless CNBC
pundits can drone on about how this natural disaster will be good for
the Japanese economy because of the substantial rebuilding program, but
they are dead wrong. Japan is trapped, with no way out. They will need
to issue hundreds of billions in new debt, which cannot be bought by its
citizens, pension funds, or insurance companies. How many foreign
investors will buy a 10 Year Japanese government bond paying 1%, knowing
that Japan wants to weaken its currency? NONE. The
only choices are to raise interest rates to attract buyers or print more
money. With an already suffocating level of debt, they can’t allow
interest rates to rise. They would choke on the interest.

The Bank of Japan will follow the same script as Ben Bernanke. They
will print new Yen and buy the newly issued debt. What an original idea.
Japan is caught in a debt stranglehold and demographic nightmare. Their
currency will ultimately collapse like a nuclear reactor after a
tsunami. When Japan defaults on their debt, the pain will be intense, as
they will be throwing their own aged population under the bus. America,
on the other hand, will throw the whole world under the bus when we
default.

The Japanese own $886 billion of US Treasuries and have bought $256
billion of our debt since October 2008. Timmy Geithner will need to
issue $1.5 trillion of new bonds per year. Japan will no longer be a
buyer. They will be a seller. This will put upward pressure on U.S.
interest rates. Japan’s reconstruction needs will put pressure on
commodity and energy prices. Production and supply problems for Japanese
parts and goods are already creating problems for GM and other car
companies in the U.S. Lack of supply leads to higher prices. The great
earthquake/tsunami/nuclear meltdown of 2011 will result in more
quantitative easing in Japan and the U.S. This will result in even more
inflation than we are experiencing today. Once the inflation genie is
out of the bottle, the race to the bottom will accelerate. Gold will
decide who wins the race. It has been a neck and neck race
since 2001. I’m not sure it is a race anyone wants to win. But the
destination is certain.

 

“The endeavors to expand the quantity of money in circulation
either in order to increase the government’s capacity to spend or in
order to bring about a temporary lowering of the rate of interest
disintegrate all currency matters and derange economic calculation.”
Ludwig von Mises