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Biggest 2-Week Surge In JPY In 2 Years Prompts Abe-Aso-Kuroda-Iwata Finger-Pointing

Tyler Durden's picture




 

The past 10 days have seen the Japanese Yen strengthen 3% against the USD - its largest such move in two years - with today's rally prompting a rather painful 'crash' in the Nikkei 225 at the open and envoking the anger of Abe:

  • *ABE SAYS CURRENCY CORRECTION HELPING EXPORTERS COMPETITIVENESS (except that there is no evidence of this in any macro data at all)
  • *ABE SAYS IT'S POSSIBLE BOJ WILL FAIL TO REACH INFLATION TARGET (like for the last two decades)
  • *ABE SAYS ECONOMY SUBJECT TO UNFORSEEN CIRCUMSTANCES (unpossible)
  • *ABE SAYS BOJ MUST EXPLAIN IF IT FAILS TO REACH INFLATION TARGET (not my fault!)

It seems that perhaps the wise investing public is waking up to the fact that words do not speak louder than actions, that macro fundamentals are bad and getting worse, and that 36,000 target for the Nikkei may be a stretch goal here.

 

and it's not like we haven't seen this before!!

 

twice in the last 3 years!!

 

And it's not just Abe - they are all out pointing fingers today:

  • *ASO WON'T COMMENT ON FOREX LEVEL
  • *KURODA: FOREX INTERVENTION IS GOVT'S RESPONSIBILITY
  • *IWATA: ULTIMATE WAY TO TAKE RESPONSIBILITY IS TO RESIGN

Do Not Panic!!

and from The Kyodo Times:

  • Winter bonuses at Japan firms hit record low for 4th year in row

Well there is some inflation...

  • *KURODA SAYS PRICE RISES WITHOUT WAGES GAINS ARE UNDESIRABLE

Brilliant!

Well not for want of creating money!!! as the Japanese monetary base expands at the 2nd fastest rate in 10 years...

 

Quite a 2-weeks for the JPY (and all the momentum-chugging FX carry crowd)...

 

and the Nikkei 225 is hurting...

 

As perhaps macro fundamental reality (that we have been vocfierously opinting out) is finally breaking through the bullshit and jawboning just isn't enough.

And finally, there's this:

  • *JAPAN’S MISTAKES DRAGGED DOWN CHINA-JAPAN TRADE: CHINA’S CHEN

Awesome - so even the Chinese want in on the blame game...

Charts: Bloomberg

 

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Mon, 04/01/2013 - 22:36 | 3398154 azzhatter
azzhatter's picture

hari kari soon

Mon, 04/01/2013 - 22:46 | 3398174 spankthebernank
spankthebernank's picture

Fuck you Abe!

Tue, 04/02/2013 - 00:19 | 3398344 knukles
knukles's picture

Ewwww... Necrphelia....

Tue, 04/02/2013 - 01:22 | 3398420 BigInJapan
BigInJapan's picture

HARAKIRI even.

 

Otherwise, yeah, "Cubs win! Cubs win!" 

Mon, 04/01/2013 - 22:36 | 3398157 Jim in MN
Jim in MN's picture

I wonder, is it repatriation of domestic savings?  Who is buying Japan now?  No one that doesn't have to....unless...it's a strange form of 'rebalancing' on the part of international funds that need to place some assets from the US, Europe and Japan just for fund balance reasons.  But I doubt there's near enough of that to affect this kind of a surge.

Fear of 'bad things' in the US and Europe....better the zombie you know.....

Mon, 04/01/2013 - 23:23 | 3398250 Orly
Orly's picture

It may be that this action is stop-hunting in a very thin market (holidays...), coming off of repatriation for the end of the fiscal year last week.  From FXBriefs.com: http://www.fxbriefs.com/major-currencies/usdjpy-one-way-traffic-driven-b...

There are big names and big money positioned short yen here but there seems to be an effort to shake out weak hands before the BoJ announcement about their path to QE(HD).

Don't be surprised to see a co-ordinated effort between the BoJ and corporate Japan, especially insurance companies, who will move their investments offshore in search of yield over Japanese government bonds. They will, in effect, depatriate funds while buying foreign assets, selling yen.

The announcement by Abe and Kuroda as to the exact mechanism of their path to inflation will be a buy-the-news event (long yen pairs...), mainly because there are very serious people trying very hard to make this happen.

:D

Tue, 04/02/2013 - 00:06 | 3398320 Yen Cross
Yen Cross's picture

    It's just a short squeeze Orly. U/J will be back up around 95 by the end of the week. I said over a week ago I was waiting to get in at lower levels. We are right around the area I was looking for.

    The BoJ is going to throw gasoline on the fire later this week. If they don't exporters will start hedging the trade by selling $. That could cause the trade to unwind. A move to the 91.50 area is only a 23.6% retrace off the 77.00-96.70 move.

Tue, 04/02/2013 - 01:31 | 3398428 BigInJapan
BigInJapan's picture

Stay awake kid. Were it anything else, we'd be calling price moves like that a bubble looking for a pin.

There's a lot of money on the other side of the Sea of Japan that would like to see this thing snap back.

Tue, 04/02/2013 - 01:46 | 3398444 Edward Fiatski
Edward Fiatski's picture

Then I guess you back this talk with your positions? :)

If BoJ fizzes out on Thursday, it's game over - A lot of shit has been priced in, they better deliver if they want to stay above 90.

Tue, 04/02/2013 - 02:06 | 3398459 Yen Cross
Yen Cross's picture

     Why don't you go find a hole and crawl in it if you don't have anything productive to offer smart ass. If you payed attention I made my call in(above) post. "The trade is approaching the level that I want to start entering a long position".

     Perhaps you need a course in reading comprehension?

Tue, 04/02/2013 - 02:14 | 3398472 Edward Fiatski
Edward Fiatski's picture

As clear as crystal - "U/J will be back up around 95 by the end of the week."

Good luck! :)

Tue, 04/02/2013 - 02:30 | 3398492 Yen Cross
Yen Cross's picture

    Once again you have your head up your ass! I haven't opened a long position as clearly stated above. Yes, I will see you at the end of the week. Japan has no choice but to go all in. If usd/jpy drops below 90.86 then exporters will start hedgeing their long usd/jpy positions (selling usd). If that happens the trade will come under pressure. The level you want to watch is not 90. It's closer to 91.

     I have been shorting the pound against the yen over the last several days. It might be a even better (trade) in about 2 hours when all the GBP macro news is released.

Tue, 04/02/2013 - 02:41 | 3398499 Edward Fiatski
Edward Fiatski's picture

Oh, if you want to be pedantic with retracement levels, then it's 89.40 & 87.30 - 38 & 50 percent of 77.35, respectively.

They're within reach, because the market doesn't like bullshit that isn't followed up with action, cue BoJ on Thursday. As for exporters shorting the USD - should be worth 30 pips. LOL

3-11-3 marks a Fuck-Me-In-The-Ass period for Japan, and a lower JPY wouldn't be a panacea here.

I'm long Thermonuclear War, as the ultimate Recovery Mechanism, in the South China sea region, and in its immediate 2,000 km radius.

Tue, 04/02/2013 - 02:59 | 3398521 Yen Cross
Yen Cross's picture

     I saw that to Orly.(thanks) The trade is pretty well in the money, so I'll just kep a close eye on it when the numbers are released. Also saw another report that suggested flows from mainland Europe may be moving back over from London if the Portugal thing settles down.

Mon, 04/01/2013 - 22:41 | 3398166 e m m
e m m's picture

Happy new Japanese fiscal year! You have been stopped out!

Mon, 04/01/2013 - 22:52 | 3398185 monopoly
monopoly's picture

Am not sure what I enjoy more, the article or Tyler's synopsis of each statement. lol.

Mon, 04/01/2013 - 22:56 | 3398194 kliguy38
kliguy38's picture

Abe says sayanora............

Mon, 04/01/2013 - 23:00 | 3398200 NoWayJose
NoWayJose's picture

Weakening your currency causes commodity, energy and food inflation - which are NOT counted in inflation calculations. In turn, this uncounted inflation makes your economy less competitive and your consumers less willing to spend. If Japan wants 2% inflation, just add in food and energy!

Tue, 04/02/2013 - 09:40 | 3399180 post turtle saver
post turtle saver's picture

"Inflation for the things we need, deflation for the things we want"

Mon, 04/01/2013 - 23:08 | 3398214 cliffynator
Tue, 04/02/2013 - 01:33 | 3398429 Edward Fiatski
Edward Fiatski's picture

Apt summation of our current situation.

This circus gets old; don't tell me the Yen is going back to under 85 :( Someone ship more inverse Viagra & Cialis to Japan, BoJ HQ.

Mon, 04/01/2013 - 23:17 | 3398241 SheepDog-One
SheepDog-One's picture

Step aside Abe...here hold my beer, I got this...

Mon, 04/01/2013 - 23:30 | 3398263 ApollyonDestroy
ApollyonDestroy's picture

Hurry up and buy!

Mon, 04/01/2013 - 23:29 | 3398266 Jim in MN
Jim in MN's picture

Plus the entire ELECTION was uh INVALIDATED by the HIGH COURTS, surely no problem there...oh look evil gaijin!!!

Tue, 04/02/2013 - 01:28 | 3398423 BigInJapan
BigInJapan's picture

Evil Gaijin here.

Wasn't that just one seat that was found to have been fradulent, and the court hasn't ordered the results overturned?

Got a link Bro?

Tue, 04/02/2013 - 01:40 | 3398440 Orly
Orly's picture

Last I heard, that one seat was determined by the High Court to be of no significance in the outcome of the vote, so it was disregarded.

Tue, 04/02/2013 - 03:16 | 3398531 BigInJapan
BigInJapan's picture

I always like it when you show up, Orly.

You're the type of person who "reads the whole thing", aren't you?

Tue, 04/02/2013 - 00:11 | 3398272 steve from virginia
steve from virginia's picture

 

 

 

Adding credit to an economy (Japan's) is counterproductive. The economy's customers cannot afford the credit, they cannot afford gas, either. There is a hard limit to currency depreciation when the economy relies on imports for fuel.

 

No fuel = no economy.

 

Central banks don't make monetary policy, drivers do, every time they pull into a gas station. Priced in gas, fiat toilet paper has worth ... enough to render central banks obsolete.

 

The Japanese bosses whine about no inflation and blame the BoJ but the bank is irrelevant. Central banks do not print money, they maks loans against (what little unpledged) collateral (remains in Japan). No collateral = no loans. Right now in Japan collateral = burned up gas.

 

That is why interest rates are negative. There is no real worth anywhere in the entire world's economies. Worth doesn't exist. There is nothing to 'trade back' so as to unwind credit exchanges. Nothing remains behind but (bad) debts, smog and some dented junkers.

 

The BoJ is stuck, it MUST lend against collateral ... to do otherwise, to make unsecured loans is to go out of business. Not only that, creating 'inflation' by the back door simply pushes fuel prices to the 'crash' level.

 

Japan is doing whatever it takes to save its precious car industry, It will throw the entire country into the toilet to do so ... except for one small detail.

 

It won't work. Kyle Bass is right ... Japan is kaput. It's too broke to bail out its car industry and the industry is too pathetic and puny to 'save' Japan.

 

They should have stuck with making samurai swords.

 

 

Tue, 04/02/2013 - 01:41 | 3398442 Edward Fiatski
Edward Fiatski's picture

Imagine what a few thousand Chinese with suitcases full of cash would do for the Japanese economy... Well, perhaps after the Third World War, since this throught isn't palatable on a general level. Yet. :)

Tue, 04/02/2013 - 07:28 | 3398736 The Onion Of Tw...
The Onion Of Twickenham's picture

Yeah, Samurai Swords! Remember those TV informercials from the 90's - "you could own this exquisite Samurai Sword" that aired at 1am on Saturday morning when the audience was umm... tired and emotional?

 

I used to wonder how many guys would order a samurai sword when blind drunk and then go "what the fuck???" when it turned up in the mail a week later.

Tue, 04/02/2013 - 09:48 | 3399230 post turtle saver
post turtle saver's picture

Bravo, +1. The keiretsu approach in Japan is going to end up exacerbating the problem, the exact opposite of its intended purpose. _Everything_ in Japan ends up promoting automotive and heavy industry, the relationships took generations to pull together and they'll take generations to unwind. Japan simply isn't nimble enough to make necessary changes which is death to an island economy.

The bad news about this is Japan, for all intents and purposes, is the 51st state of the USA. Do we prop them up like we've been propping up Europe? Can this financial war that the US finds itself in be fought on two fronts? The magic 8 ball says, "outlook uncertain".

Tue, 04/02/2013 - 00:10 | 3398326 disabledvet
disabledvet's picture

"you can't trade QE." can't say i know what the thing is but it's smothering spread and making everything "a government thing."

Tue, 04/02/2013 - 00:10 | 3398330 Bunga Bunga
Bunga Bunga's picture

Seppuku you fuckers!

Tue, 04/02/2013 - 00:12 | 3398334 williambanzai7
williambanzai7's picture

The only thing left to do is War. :-(

Tue, 04/02/2013 - 01:05 | 3398404 kliguy38
kliguy38's picture

I think its time for some Banzai7 specials.............

Tue, 04/02/2013 - 01:30 | 3398424 Edward Fiatski
Edward Fiatski's picture

Bingo-Presto-Exactamundo, baby. :)

Notin' expands the monetary supply like the threat of imminent death (not really), see Jekyll Island & the creation of the Fed in 1913 for the purposes of funding the First World War, Second and every other war since then.

Tue, 04/02/2013 - 02:28 | 3398484 Non Passaran
Non Passaran's picture

There's a first time for everything.
In this case, for a down vote.
Sorry, but the comment is stupid.
That kind of inane comment is usually left by the bearded "American Ahmadinejad" or whatever the hell his nick is.

Tue, 04/02/2013 - 02:45 | 3398508 Edward Fiatski
Edward Fiatski's picture

Truth hurts, doesn't it?

Truth has its way of reasserting reality, even if it means the vaporisation of a billion flesh & bone meatbags.

Such a cruel disregard for a cohesive collection of atoms. Tsk-tsk.

Tue, 04/02/2013 - 01:02 | 3398400 Vint Slugs
Vint Slugs's picture

From September 13 to March 12 the JPYUSD declined approximately 20% fulfilling technical analytic forecasts published in December at 105 and then 106 in the CME futures. 

See here:  http://eideticresearch.com/uploads/2/8/3/4/2834543/jyen_dec13_2012_hs_chart_plus_comment.pdf

and here:  http://eideticresearch.com/uploads/2/8/3/4/2834543/jyen_midway_gap_potl_december_25_2012_.pdf

The market is going to have a typical technical Fibonacci 38.2% correction (if not more) toward CME 113 – 114 regardless of what Abe-Aso-Kurota-Iwata think or want.

 

 

Tue, 04/02/2013 - 01:21 | 3398417 BigInJapan
BigInJapan's picture

Anybody remember a few months back when I mentioned that the Japanese have ZERO capacity for personal responsibility?

Tue, 04/02/2013 - 01:35 | 3398432 Edward Fiatski
Edward Fiatski's picture

It was rather obvious during the 11-3-11 Tepco nuclear PP meltdown.

Dickless culture, though still lovable. <3

Tue, 04/02/2013 - 02:12 | 3398469 q99x2
q99x2's picture

At least they are building up their immunity to radiation in the meantime.

Tue, 04/02/2013 - 02:34 | 3398496 lolmao500
lolmao500's picture

I'm kind sad this kind of thing is happening to Japan while it's not happening to Bernanke... Bernanke forced to explain his failure to congress day after day would be quite something... I'm longing for the day...

Tue, 04/02/2013 - 04:27 | 3398594 chindit13
chindit13's picture

One must understand how to read Japan.  The way I see these comments, Abe still thinks all is well, and his policy recommendations are still being implemented.

If and when he says, "It is regrettable that the inflation target has not been reached", or something to that effect, that means he's a day at best from re-checking himself into that care facility he escaped to last time he was PM.

Tue, 04/02/2013 - 07:37 | 3398756 wonderatitall
wonderatitall's picture

abe , just do what our beloved president of drones does, blame bush and the jooooos....oh remember to get  that litttle justin maddow on cnbc and rev sharpton to help

Tue, 04/02/2013 - 04:28 | 3398600 ebworthen
ebworthen's picture

You know, if central bankers quit dicking with economies they might actually function.

Tue, 04/02/2013 - 09:52 | 3399249 post turtle saver
post turtle saver's picture

If I could give you +1000 I would.

Wed, 04/03/2013 - 00:45 | 3401954 matrix2012
matrix2012's picture

The Setting Sun – Japan’s Forgotten Debt Problems

In 1979, the publication of Harvard sociologist Ezra Vogel’s international best-selling book Japan as Number 1 signalled the nation’s arrival as an economic power. Today, Japan’s industrial and economic decline is palpable.

But in 2012, Japan’s Nikkei 225 stock average rose by around 23%. Much of the increase reflects faith in the reflation strategy of second time Prime Minster Shinzo Abe to increase growth through an additional US$120 billion of public spending, create inflation to reduce the debt to GDP ratio and devalue the Yen. The strategies, which have all been tried before with limited success, may not restore the health of the Japanese economy.

Dark Statistics…

In the post war period, Japan enjoyed decades of strong economic growth – around 9.5% per annum between 1955 and 1970 and around 3.8% per annum between 1971 and 1990. Since the collapse of the Japanese debt bubble in 1989 / 1990, Japanese growth has been sluggish, averaging around 0.8% per annum. Nominal gross domestic product (“GDP”) has been largely stagnant since 1992. Japan’s economy operates far below capacity, with the output gap (the difference between actual and potential GDP) being around 5- 7%.

The Japanese stock market is around 70-80% below its highs at the end of 1989. The Nikkei Index fell from its peak of 38,957.44 at the end of 1989 to a low of 7,607.88 in 2003. It now trades around 8,000-12,000. Japanese real estate prices are at the same levels as 1981. Short term interest rates are around zero, under the Bank of Japan’s (“BoJ”) Zero Interest Rate (“ZIRP”) policy which has been in place for over a decade. 10 year Japanese government bonds yield around 1.00% per annum.

Since 1990, public finances have deteriorated significantly. Government spending to stimulate economic activity has outstripped tax revenues, resulting in a sharp increase in Japanese government gross debt to around 240% of GDP. Net debt (which excludes debt held by the government itself for monetary, pension and other reasons) is about 135%. The US government has gross and net debt of 107% and 84%. Total gross debt (government, non-financial corporation and consumer) is over 450% of GDP, compared to around 280% for the US.

Japan’s demographics parallel its economic decline. Japan’s population is forecast to decline from its current level of 128 million to around 90 million by 2050 and 47 million by 2100. A frequently repeated joke states that in 600 hundred years based on the present rate of decline there will be 480 Japanese left.

The proportion of Japan’s population above 65 years will rise from 12% of the total population to around 23%. Japan’s work force is expected to fall from 70% currently by around 15% over the next 20 years. For every two retirees there will be around three working people, down from six in 1990.

According to one forecast by 2050, Japan will have a median age of 52, the oldest society ever known. Currently sales of adult diapers now exceed those intended for babies.

Japan’s problems have been compounded by two major natural disasters – the 1994 Kobe earthquake and the 2011 Tohoku earthquake and tsunami.

In the face of the nation’s long term decline, Japanese politics has become increasingly fractious. Frequent changes of leadership, often driven by arcane internal factional politics, have created an unstable environment and a lack of policy continuity. Japan has had seven prime ministers in six years and six finance ministers in three years. Former Brazilian President Luiz Inácio Lula da Silva once joked that in Japan you say good morning to one prime minister and good afternoon to another.

Origins of the Crisis…

Japan’s post war economic success, like that in Germany, was based on an export driven economic model, using low costs and manufacturing competence. An under-valued Yen provided Japanese exporters with a competitive advantage.

The Plaza Accord signed on 22 September 1985 called for France, West Germany, Japan, the United States, and the United Kingdom to devalue the dollar in relation to the Japanese Yen and German Deutsche Mark by intervening in currency markets. Between 1985 and 1987, the Yen increased in value by 51% against the dollar.

Japan moved from an era of En’yasu, an inexpensive Yen, to a period of Endaka or Endaka Fukyo, an expensive Yen. The higher Yen adversely affected Japanese exporters. Japanese economic growth fell sharply, from 4.4% in 1985 to 2.9% in 1986.

Desperate to restore growth and offset the stronger Yen, the Japanese authorities eased monetary policy with the BoJ cutting interest rates from 5% to 2.5% between January 1986 and February 1987. The lower rates led to a rapid increase in debt funded investment, driving real estate and stock prices higher. At the peak of the “bubble” economy, the 3.41 square kilometre (1.32 square miles) area of the Tokyo Imperial Palace had a theoretical value greater than all the real estate in the state of California.

Seeking to reverse the unsustainable asset price inflation, the authorities increased interest rates to 6% between 1989 and 1990 triggering the collapse of the boom. As Japan’s economic problems worsened rapidly, the government responded with large fiscal stimulus programs. The BoJ cut interest rates to zero. But the policy measures failed to revive the economy, which slid into deflation.

There was a parallel deterioration in public finances. At the time of collapse of the bubble economy, Japan’s budget was in surplus and government gross debt was around 20% of GDP. As the Japanese economy stagnated, weak tax revenues and higher government spending to resuscitate growth created substantial budget deficits.

Japan’s total tax revenue is currently at a 24 year low. Corporate tax receipts have fallen to 50 year lows. Japan now spends more than 200 Yen for every 100 Yen of tax revenue received.

The period of Japanese economic decline was known as the Lost Decade or Ushinawareta Junen. As the economy failed to recovery and the problems extended beyond 2000, it has come to be referred to as the Lost Two Decades or the Lost 20 Years (Ushinawareta Nijunen).

Japanese Airbags…

Japan’s large pool of savings, low interest rates and a large current account surplus has allowed the build-up of government debt.

Japan has a large pool of savings, estimated at around US$19 trillion, built up through legendary frugality and thrift during the nation’s rise to prosperity after World War II. High savings rates also reflected the country’s young age structure especially until the 1980s, the low level of public pension benefits, the growth of income levels through to the late 1980s, the bonus system of compensation, the lack of availability of consumer credit and incentives for saving.

In recent years, household savings were complemented by strong corporate savings, around 8% of GDP. This reflects slow growth, excess capacity, lack of investment opportunities and caution driven by economic uncertainty.

Much of these savings are invested domestically. A significant amount of the savings is held as bank deposits, including large amounts with the Japanese Postal System. In the absence of demand for credit from borrowers, the banks hold large quantities of government bonds to match the deposits, helping finance the government. Japanese banks hold around 65-75% of all Japanese government bonds (“JGBs”) with the Japanese Postal System being the largest holder. Around 90% of all JGBs are held domestically.

The high levels of debt are sustainable because of low interest rates, driven by the BoJ’s ZIRP and successive rounds of JGB bond purchases as part of quantitative easing (“QE”) programs since 2001. The BoJ balance sheet is now around US$2 trillion an increase from around 10% of Japan’s GDP to 30% since the mid-1990s. BoJ holdings of JGBs are around US$1.2 trillion, around 11% of the total outstanding.

Low interest rates perversely have not discouraged investment in bank deposits or government bonds. This reflects the poor performance of other investments, such as equity and property, during this period. The strong Yen has increased the risk of foreign investments.

Although nominal returns are low, Japanese investors have received high real rates of return, because of falling prices or deflation.

Over the last 50 years, Japan has also run large current account surpluses, other than in 1973–1975 and 1979–1980 when high oil prices led to large falls in the trade balances. The current account surplus has resulted in Japan accumulating foreign assets of around US$4 trillion or a net foreign investment position of approximately 50 % of GDP. This helped Japan avoid the need to finance its budget deficit overseas and also boosted domestic resources, increasing demand for JGBs.

Since the global financial crisis and more recent European debt crisis, Japan has been viewed as a “safe haven”. Investors have purchased Yen and JGBs, pushing rates to their lowest levels in almost a decade and increasing foreign ownership of JGBs to around 9%, the highest level since 1979, the first year for which comparable data is available. These factors have assisted Japan to finance its budget deficit.

Airbags designed to protect occupants of a car from injury in a crash only work once. Similarly, the factors which allowed Japan to increase its government debt levels are unlikely to continue.

Change in the Weather…

Following the collapse of the bubble, policymakers implemented a variety of economic stimulus programs.

Japan’s budget surplus of 2.4% in 1991 has become a chronic budget deficit, increasing from 2.5% in 1993 to about 8% by the end of the 1990s. It has remained high during the 2000s. The BoJ has tried unsuccessfully to increase inflation to reduce debt. Japanese inflation has averaged minus 0.2% in the 2000s, a decline from levels of 2.5% in the 1980s and 1.2% in the 1990s. The policies have failed to restore economic growth, trapping Japan in a period of economic stagnation.

Nomura economist Richard Koo argues that Japan is experiencing a “balance sheet recession”, triggered by the collapse of financial asset prices. Financially insolvent firms are reducing debt – deleveraging- despite low interest rates. This is evidenced by a sharp fall in investment (currently around 22% of GDP, down from 32% in 1990) and corporations becoming net savers from net borrowers.

Private consumption is weak, falling to about 57% of GDP, further reducing domestic demand. This reflects weak employment, lack of growth in income and the aging population. Strong exports and a current account surplus have partially offset the lack of domestic demand, as firms focused on overseas markets.

With investment and consumption weak, large budget deficits have supported economic activity, avoiding an even larger downturn in economic activity.

In a balance sheet recession, monetary policy is ineffective with limited demand for credit. GDP tends to decline by the amount of debt repayment and un-borrowed individual savings. Government stimulus spending is the primary driver of growth.

Given the strategies have been tried unsuccessfully before, the Prime Minister Abe’s policies have a desperate quality. Although the measures will provide a short term lift in economic activity, it is unlikely to create a sustainable recovery. They will increase the budget deficit and government debt levels.

Continued economic weakness, a decline in savings rates and a reversal of the current account surplus make the Japanese government debt burden increasingly unsustainable.

Getting Poorer at Home…

The Japanese government’s ability to finance spending is increasingly constrained by falling Japanese household savings rates, which have declined from between 15% and 25% in the 1980s and 1990s to under 3%, a level below the US until recently. This decline reflects decreasing income and the aging population.

At around 5%, Japan’s unemployment rates are low relative to international peers but higher than the 2-3% levels that existed prior to 1991. The official rate understates real unemployment because of government employment adjustment subsidies and structural change in the Japanese labour to lower costs to offset the impact of a higher Yen and global competition.

Wage have fallen with average annual salaries including bonuses falling every year since 1999 and decreasing by around 12% in total. Between 1994 and 2007, labour costs as a percentage of manufacturing output declined from73% to 49%. Japanese worker’s share of GDP fell to 65% in 2007, from a peak of 73% in 1999.

In a change from the tradition of lifetime employment, 34% of the labour force (around) 20 million workers are employed in part-time or contract roles, an increase from 20% in 1990. These workers do not have job security, training or benefits associated with full time work.

In 2009, previously unreleased government statistics revealed that 15.7% of Japanese, including 14% of children and 21% of the elderly, live below the poverty line.

The aging population further reduces the savings rate. Household surveys indicate that around a quarter of households with two people or more have no employment. In aggregate, the amount of money being paid to retirees from savings exceeds the amount of new money that is going into savings funds. This is compounded by low returns on investments which accelerates the rundown of savings.

Getting Poorer Abroad…

Japan’s current account surplus has also allowed the government to run large budget deficits which can be funded domestically. Since 2007, the Japanese trade account surplus has fallen sharply, turning into a deficit in 2012.

The secular factors driving the fall include an appreciating Yen and slower global growth, which has reduced demand for Japanese products, such as cars and consumer electronics. In late 2012, territorial disputes with China exacerbated the decline in exports. It also reflects the impact of the Tohoku earthquake and tsunami as well as the subsequent decision to shut down Japanese nuclear power generators, which increased energy imports, especially Liquid Natural Gas.

Deep seated structural factors also underlie changes in the trade account. Since the 1980s, rising costs and the higher Yen have driven Japanese firms to relocate some production facilities overseas, taking advantage of lower labour costs and circumventing trade barriers. More advanced, technologically complex and high value manufacturing was kept in Japan. But post 2007 Japanese firms have increasingly been forced to close these domestic production facilities as they have become uncompetitive.

The combination of falling exports, lower saving rates, declining corporate earnings and cash surpluses is likely to move the Japanese current account into deficit. In turn, this will force Japan to become a net importer of capital to finance government spending, altering the dynamics of its finances.

The Way It Ends…

If Japan continues to run large budget deficits, as is likely, then the falling saving rate and reversal in its current account will make it more difficult for the government to borrow, at least at current low rates.

Ignoring foreign borrowing and debt monetisation by the central bank, the stock of private sector savings limits the amount of government debt. In the case of Japan, this equates to around 250-300% of GDP. Japan’s gross government debt will reach this level around 2015, although net government debt will not reach this limit until after 2020.

Even before Japan’s government debt exceed household’s financial assets, the declining savings rate and increasing drawing on savings by aging households will reduce inflows into JGBs making domestic funding of the deficit more difficult.

Insurance companies and pension funds are increasingly selling their holdings or reducing purchases to fund the increase in payouts to people eligible for retirement benefits. Institutional investors and to a lesser extent retail investors are also increasingly investing in other assets, including foreign securities, in an effort to increase returns and diversify their portfolios.

Forecast current account deficits will complicate the government’s financing task. Japan’s large merchandise trade surplus has shrunk and will remain under pressure reflecting weak export demand and high imported energy costs.

Japan’s large portfolio of foreign assets will cushion the effects for a time. Japan has accumulated large foreign assets totalling around US$4 trillion, making it the world’s biggest net international creditor. The BoJ is the largest investor in US Treasury bonds, with holdings of around US$1 trillion. But even if net income from foreign assets (interest payments, profits and dividends) stays constant, Japan’s overall current account may move into deficit as soon as 2015.

As the drawdown on financial assets to finance retirement accelerates, Japan will initially run down its overseas investments, losing its net foreign asset position. Unless public finances improve, Japan ultimately will be forced to finance its budget deficit by borrowing overseas.

Where the marginal buyers of JGBs are foreign investors rather than domestic Japanese investors, interest rates may increase, perhaps significantly. Even at current low interest rates, Japan spends around 25-30% of its tax revenues on interest payments. At borrowing costs of 2.50% to 3.50% per annum, two to three times current rates, Japan’s interest payments will be an unsustainable proportion of tax receipts.

Higher interest rates will also trigger problems for Japanese banks, Japanese pension funds and insurance companies, which also have large holdings of JGBs.

JGBs total around 24% of all bank assets, which is expected to rise to 30% by 2017. An increase in JGB yields would result in immediate mark-to-market large losses on existing holdings, although higher returns would boost income longer term. BoJ estimates that a 1% rise in rates would cause losses of US$43 billion for major banks, equivalent to 10% of Tier 1 Capital for major banks or 20% for regional banks.

To avoid the identified chain of events, Japan must address the core problems. But reductions in the budget deficit are difficult. Spending on social security accounts and interest expense now totals a major part of government spending. Increasing health and aged care costs are expected by 2025 to be around 10-12% of GDP. An aging population and shrinking workforce will continue to drive slower growth and lower tax revenues. Tax increases are politically unpopular. Reductions in the budget deficit are likely to reduce already weak economic activity, compounding the problems.

Japanese policy makers have other options. Financial repression forcing investment in low interest JGBs is one alternative. The BoJ can maintain its zero rate policy and monetise debt to finance the government. Japan can try to inflate away their debt. But ultimately, Japan may have no option other than a domestic default to reduce its debt levels.

Older Japanese, especially retirees who are major holders of JGBs, would suffer large losses. Younger Japanese would benefit from the reduction in debt and reduced claims on future tax revenues. Such a drastic alternative, with its massive economic and social costs, is difficult to conceive other than as the last option.

Cassandra in Japan…

Investors and traders have repeatedly bet on a Japanese crisis, usually by short selling JGBs to benefit from higher rates. With low Japanese interest rates, the risk of the trade has always seemed limited while the potential profit large. But the bet has failed each time, giving the strategy its name – the widow maker.

Given its large domestic savings and also the ability of the BoJ to further monetise its debt, the status quo can be maintained for a little longer. But eventually Japan’s deteriorating public finances and declining ability to finance itself domestically will coincide with weakening ratings and large refinancing needs.

Although no longer AAA since May 2009, Japan currently has a strong debt rating – AA3 (Moody’s Investor Services) from or AA minus (Standard & Poor’s). In 2012, Fitch downgraded the country’s credit rating to A plus from AA. Its rapidly deteriorating financial position will place continuing pressure on its rating, making fund raising more difficult and expensive especially outside Japan.

Japan has an average debt maturity of 6 years, shorter than Spain, Italy and France. Around 60% of its debt must be refinanced in the next 5 years. This will expose Japan to the discipline of market investors at a vulnerable moment.

Once the problems emerge, they will be difficult to contain. As Economist Rudiger Dornbush once observed: “The crisis takes a much longer time coming than you think, and then it happens much faster than you would have thought”.

This piece is cross-posted from Naked Capitalism with permission.

 

Satyajit Das,  2013-01-15

Satyajit Das is an internationally respected expert on finance with over 30 years working experience in the industry.

 

"Japanese Beetle Meet Windshield"

See also "LAND OF THE SETTING SUN" « The Burning Platform (2011-03-21)
 

 

from Kyle Bass' recent explanations at the University of Chicago Booth School of Business:

The Coming Crisis in Japan - Kyle Bass

20 lost years in Japan. GDP back to 20 years ago level. Real estate down 75%. ONE thousand trillion yen debt. As Japan issued more debt, their interest rates were falling. Interest expenditure is 10 trillion yen. Tax revenues are 43 trillion yen. One quarter of tax revenue goes to interest alone, and that's when its free. 5 year treasury bonds are 17 basis points.

This is the zone of insolvency. There is no looking back. Japanese debt is 24 times govt tax revenue. If Abe achieves an inflationary outcome, they're finished. Every hundred basis points of cost of capital for the country costs them another 11 trillion yen. A 200 basis point move has their debt service exceeding government tax revenue.

Those people wishing for inflation in Japan, know not what they wish for. Back in 1990, the peak level of tax revenue the government ever brought in, back when the imperial palace was worth more than all of Canada, was 60 trillion yen. They are now around 40 trillion yen of tax receipts. For the 5th year in a row, they are going to spend more than twice what they make in taxes in Japan. This year they will take in 46 trillion yen in taxes and spend 102 trillion, and they will probably up that number with the current stimulus.

There have been 10 finance ministers in the last 5 years. 5 in the last 3 years. This is the most obvious scenario I have ever seen in my entire life. It's just a question of when. When that switch is flipped, it happens all at once. The demographics are the most important thing in my opinion.

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I love following lines by Kyle Bass, here for fellow ZH readers :-)

"Madoff taught us that you can make promises in the future ad infinitum as long as you have more dummies entering than exiting the scheme. [...] You will have a mass problem with the finances of the country when more people are exiting the work force than entering it. That is exactly what is happening right now. 25% of the population is over the age of 65 while in the developed world it is 8%. With 95% of bonds held by the internal population, and with declining demographics, what you are seeing right now is a central bank expanding balance sheet at an accelerated rate."

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