Why China Will End Up Like Japan

Submitted by Eugen von Bohm-Bawerk via Bawerk.net,

When Nixon took the dollar off gold on August 15th 1971 he did not end the Bretton-Woods arrangement. On the contrary, he exacerbated the very same destructive effects that had forced him to renege on the promise to pay gold at a fixed exchange rate to the dollar in the first place. To fund wars and an ever expanding welfare state the custodian of the global reserve currency had fallen for the almost irresistible temptation to print excess dollars above and beyond what was prudent relative to bullion levels.

After closing the gold window no such restrictions were there to notionally hold back the Americans. As long as international producers were and are willing to accept dollars as final payment for their goods and services the exorbitant privilege can continue.

While it may seem like a boon for the US to be able to consume globally produced goods more or less for free it does come with nasty side effects. In essence, the exchange of something for nothing consumes- and misallocates capital on a grand scale. US producers, which must pay their suppliers and workers with real goods and services, cannot compete with foreigners that charge nothing more than a change in some electronic ledger somewhere in the fuzzy world of global banking.

It is true that these changes charged for goods and services are claim on future US production, but that is a problem for tomorrow, not today, and tomorrow someone else will have to deal with it.

We argue that tomorrow is getting real close, but that will be a discussion for another day. Here and now we will focus on global economic ramifications from American dollar emission.

In the Bretton-Woods period dollars were pyramided on top of reserve gold holdings while another layer of fiduciary dollar claims were pyramided on top of the issued dollars in a fractional reserve banking system. In addition to this, Eurodollar claims abroad added another layer to the pyramiding of fiat money in the global reserve system. While a Eurodollar is in itself 100 per cent backed by actual dollars, further fiduciary claims to dollars, for which no dollars actually exists, are bread and butter in this system; hence the need for Federal Reserve SWAP lines in times of stress in financial markets.

Bretton-Woods did pay lip service to gold as a monetary metal, but after 1971 even this loose connection was dissolved completely. There was nothing but a shortage of collateral to hold back an enormous expansion of various dollar claims all over the world; and with securitization only limited to the imagination of Wall Street, collateral shortages turned out to be mere illusory. In other words, limited financialisation in the decades during the Bretton-Woods and centuries of capital accumulation turned out to be a match made in heaven which spewed out collateral babies en masse as soon as the shackles from the barbarous relic was severed once and for all; setting the perfect stage of massive dollar claim issuance.

As a side-note, we do not regard the so-called deregulation of the banking system from the 1980s as deregulation in the proper sense, but rather a Faustian Bargain between a state sponsored banking cartel and the state itself, in a ill-fated attempt to increase money velocity to fund pet projects and make credit readily available for the unworthy borrower (credit is not something that can be given to anyone, but something they already have through prior actions, deed and reputation).

Needless to say, a profligate state with a printing press coupled together with a “deregulated” banking system financialising collateral as never before to expand dollar claims on top of the freshly printed money created excesses unimaginable under the proper Bretton-Woods system. In short, Nixon took the problems with Bretton-Woods and brought them to a completely new level.

With nothing holding them back, dollar claims grew and grew as can be represented in the global current account chart below. From the early 1980s the US started to accumulate an increasing current account deficit, and Japan was the willing recipient of global dollar claims. The US manufacturing base got hollowed out in competition with the Japanese and domestic calls for unfair competition through Japanese currency manipulation grew ever louder due to the fact that global faith in the US dollar was restored after Volker successfully fought the great inflation from the 1970s; leading to a 50 per cent appreciation of the US dollar from 1980 to 1985. However, concerted action by France, the UK, the US and West Germany and Japan to depreciate the US dollar in relation to Japanese Yen and German Deutsche Mark signed September 22, 1985 at the Plaza Hotel in NYC reversed the five year old trend.

The US dollar depreciated by 51 per cent from 1985 to 1987 and looked like it would break the back on the Japanese export miracle of the early 1980s. Not coincidentally, the global current account imbalance peaked in 1985 as the Plaza Accord got going.

Japanese authorities panicked as their export dependent economy essentially came to a halt in the first half of 1986 with the economy in recession and the exchange rate appreciating rapidly. A sizeable Keynesian “stimulus” package was introduced to substitute domestic demand for waning foreign demand. Policy interest rates were reduced by about 3 percentage points; a large fiscal package was introduced in 1987, despite the fact that the economy showed signs of a robust recovery. In response to free money and centralised demand management the economy was actually booming again by 1987. Unsurprisingly, the free money found its way into existing assets as investing for an uncertain future was less of an option. In any case, the once lucrative export sector had accumulated massive overcapacity so there were few easy profit opportunities to be found.

Stocks and urban land prices tripled between 1985 and 1989 as a constant stock of assets were chased by in increasing level of money. Speculation and flipping houses suddenly became the easy route to riches; even the stoic Mrs. Watanabe jumped the speculative bandwagon.

The whole edifice obviously collapsed on the weight of its own absurdity and the Japanese, with firsthand experience of the wonders of Keynesian demand management, thought they could pull off the same trick again. New stimulus packages was tried, interest rates were dropped to the ZLB and early versions of quantitative easing all failed to reinvigorate the once mighty Japanese economy. All the pundits that had used their ruler’s on Japan’s GDP to claim it would be the world’s largest by 1999 were ridiculed and soon forgotten.

Japan did everything wrong. They should allow bankruptcies, defaults, resource reallocation and unemployment. The dollar demand would not come back to support the export sector to the extent it had before the Plaza Accord. It was time to readjust the whole economic structure, but that would be painful in the short term, and the Japanese did not allow that to happen creating a zombie economy instead.

Source: International Monetary Fund (IMF), Bawerk.net

In 2008 the global financial crisis hit the world economy after a massive build-up of financial imbalances again rooted in dollar claim issuance. While global imbalances “only” reached about 1.5 per cent of global GDP in 1985 it had reached more than 2 per cent in 2008. Even worse, imbalances had been allowed to build up over almost 10 years, as opposed to only four back in 1985.

Just as in 1985, political pressure on China to revalue its exchange rate was growing, and the Chinese responded accordingly, though more reluctantly than the Japanese did in 1985. When the bubble burst Chinese authorities had the option of going all in, or accept failure and massive social unrest. The choice was simple; an unprecedented monetary and fiscal “stimulus” package was the favoured option. By substituting domestic demand for collapsing foreign demand the Chinese believed they could avoid the consequences of years of market/reality suppression.

It appeared to work just as it did in Japan, as the Chinese economy steamed ahead for several more years after 2008. Continued demand from China also helped desperate commodity producers which were set to years of pain after 2008. Instead, excess capacity continued to be piled on top of already malinvested resources for seven more years making the problems that much larger.

It is all a mirage though. Just as in Japan, the Chinese will not allow the market process to do its magic to get the economy back on a stable footing. Draconian measures to stop the recent stock market rout are a clear testimony of that. In other words, the Chinese economy will resemble that of Japan, and it will do so very soon, if it is not already there. Global commodity producers will be crushed and once again all the pundits proclaiming Chinese global dominance with the Yuan as the new world reserve currency will be put to shame. It will not happen; the “miracle” will turn into a nightmare.

Source: Bureau of Economic Analysis (BEA), International Monetary Fund (IMF), Bawerk.net

Concluding remarks

Global “dollar” issuance looks like genuine demand based on prior production but it is not. Export powerhouses fall into the trap and think the domestic boom they are living through is because they are exceptional. Old socialist are celebrating the fact that alternative growth “models” can outpace freer societies in the west, but these are often nothing more than pragmatic command economies with little ability to change in times of hardship. Just as Japan thought they could go back to pre-Plaza Accord growth rates by holding on to the old ways in the 1990s, the Chinese will expect the growth miracle to return in 2016 with the “right” policies. It will not. China is heading straight into a zero growth environment, and will be mired there for years to come.

Comments

[SHEEPFUKKER]

Dammit,  can't we have infinite "growth" on a finite planet?

[0b1knob]

< Inhabitted by perverts who masturbate to cartoons of girls being raped by tentacled monsters.

< Radioactive.

How China will end up like Japan.

[NihilistZero]

"Growth" as it used, is the illusion of capitalism without loss.  We can have company's rising and falling all day.  But the "growth" that is so often set as the goal is wholly unsustainable.  At some point someone must eat losses for capitalism to work.  Otherwise the rot eventually brings down the whole system.  I sincerely hope we don't reach that world imploding moment.

I'm certain we can find new forms of energy and resources.  After all Nuclear Fusion is real, if we can crack it in the next 100 years who knows what doors will be opened. However there is no mathematical way the legion of rentiers worldwide can maintain much less expand their share of the pie.  This type of bullshit "growth" is wholly unsustainable and in reality is undesirable for all but the .01%

[Tinky]

So in summary, all of these economic policies look alike?

[ThroxxOfVron]

"So in summary, all of these economic policies look alike? "

Some coincidence, huh?

At first glance it might even appear obvious that some very small group of despotically oligarchs were acting in concert to manage the global financial system to the benefit of themselves alone even if it commits the globe to an endless series of famine, crisis and war...

But, of course that cannot be true: it's not like a cadre of aristocrats/OLD money and semites/Goldmanites are sitting on the boards of the largest global corporations and running the largest Central Banks...

[old naughty]

"Will China end up like Japan?"

b,b,but they had only 30-odd years of growth, and with no 311, while

Japan had longer and a "blessing" of 311.

ah, um, oooh, speeding up !

[cougar_w]

Nobody now can end up like Japan. Japan had the consumer patterns of the entire planet bolstering their bubbles, and even had China to some extent. So who will China have as a backstop? Anyone? No one?

It's some down to magical thinking. Growth will appear from some undiscovered corner of the galaxy, I guess. Or we'll all lift ourselves by the bootstraps.

That's the only story because the alternative -- that the growth days are over -- are too horrendous in human terms to contemplate.

[beijing expat]

This ignores the fact that Japan is an American colony and is not allowed to formulate an independent policy. China on the other hand is sovereign and is free to pursue its own best interests.

[jcdenton]

"China on the other hand is sovereign."

Hong Kong maybe. I'm not so sure about the rest of the PRC. Same can be said about Texas. Not so much the rest of the Union (with the exception of ND. I'm not sure UT counts here. Most don't know who the LDS actually are.)

[i_call_you_my_base]

China is on the irreversible path of financialization. Everyone always thinks they can escape the trap. They cannot.

[Wild Theories]

yes, but that fact is also irrelevant.

if they are unwilling to ever allow the market to go down, and feels compelled to "manage" everything, then they will become Japan.

we are all turning Japanese.

[CC Lemon]

It also ignores the fact that Japan actually made (and still makes, to an extent) pretty decent stuff.

China, on the other hand...

[Reichstag Fire Dept.]

The Japanese if given the choice between bankruptcy or nuking themselves, would nuke themselves! ...when you're dead, lay down. 

[Bay Area Guy]

I don't think China will end up like Japan.  I think it will end up far worse.  Income disparity in China is humungous.  The poor in China are dirt poor and the rich in China have no qualms about flaunting their wealth, even with government policies telling them not to.  I foresee a day in the not so distant future that Cultural Revolution Part Deux comes to pass and China kills off another 100 million of its "best and brightest".  They'll need to make those new islands they created a lot bigger, because we'll see Taiwan II as well with the "best and brightest" who can escape fleeing offshore and forming another country.

China's history seems to be one of building itself up to be a powerful nation, only to see infighting and greed tear it apart.  As the saying goes, history may not repeat itself, but it rhymes.

[Bull Bear Nice Pair]

There are plenty poor people in China, that's why China won't end up like Japan. When Japan started to build "bridges to nowhere", the per capita income was like what, $30,000? Japan, as a whole, had already been built up thoroughly. In contrast, there is plenty of development for China to continue. It probably won't end up like Japan for at least another 2 decades.    

[HolyfieldsOtherEar]

I tried to say the same thing but you summed it up nicely. China and Japan are as different as chalk and cheese.

[buzzsaw99]

i don't know about zero growth but sino-zirp is absolutely on the horizon

[Herdee]

The whole world gone Keynesian mad.Those Chinese Communists make good Keynesians.

[Wilcox1]

Why won't the Asian market ticker come up

[scatha]

For those who still believe that communists rule China; Wake up. The Chinese stock market crash is revealing more and freer capitalism in China than in US even with its current level of market manipulation. But it will not be allowed to continue since in the end it is all about power and not money in China as well as it was not in Japan and US. Only we, grunts, will have to pay for it with our livelihoods and/or lives.

A quote from previous post:

For last at least two decades China behaves of corporate fascist state in every meaning of the word. Working people and any organizations that would truly protect health or any interests of workers are being destroyed. They benefit nothing from the whole western instigated and financed, by robbing western middle class, economic boom of China.

Before Chinese worker was making a dollar a month and paid one cent for bread. Now Chinese worker was making 100 dollars a month and pay one dollar for bread calling that improvement.

Remaining true communists are killed, in prisons or gagged. What we have is fascist state of fused state and private profit/public loss corporations and government via rampant cronyism with intimate ties to the western elites, themselves cultivating fascism, global fascism.

China is distinct part but nevertheless, a part of global political system run by world elites through central banking, united in quest form debauchery, gluttony, and psychotic drive to ultimate extermination of ordinary people.

The multiple decisions of China to follow western prescription only to maintain illusion of functioning world economy with ghost cities, millions un-bought cars hidden from view, fake exports to HK, collapse of energy demand and general consumption, ecological catastrophe and wide spread of poverty in China and elsewhere are clear evidences of harmony at top echelons of global elite, despite often personality conflicts misconstrued as political antagonisms.

Now China’s central bank, PBOC, years after imposing politically motivated stimulus spending, to enable recent transition of power between two political mafias, embarked on a version of massive QE on the way to ZIRP to keep badly collapsed or deteriorated “good things” going joining US, Europe and Japan on the road to collapse of society.

The frantic and futile efforts of Chinese authorities to decelerate massive collapse of the bubble (purposely blown beyond any proportions) by destroying stability of Chinese currency and whole command and control financial system, no mater what economic consequences may ensue is in its form identical to brutal destruction of western markets and financial system via FED intervention, during 2008 crisis in the west.

China’s AIIB is clear example of China’s desperation and entering a path following the US imperial path after WWI and WWII to grow sagging economy by exploiting the world (global investment strategy and dedollarization) , in attempt to bring stability to their society that no longer can be exploited with satisfactory ROI without serious political consequences. 

In other words, these are evidences that China began to depart from their Confucian historical perspective toward short-term political game. The greed of China’s ruling elites is sowing their demise as much as American ruling elite.

They have way to go but within next 20 years or less China’s about 300 millions strong middle class is likely to join the rest of the western world middle classes in common global extermination camp.

An interesting take on rise and fall of Japan and fallacy of her economic miracle I found at:

https://contrarianopinion.wordpress.com/2015/02/20/japan-miracle-that-wasnt/

and on convergence of the political systems at:

https://contrarianopinion.wordpress.com/2015/01/06/pools-and-propaganda-...

[theTribster]

Good assessment, I agree. I lived thru the Japan craziness when they were buying all kinds of US Based assets - the Empire State building I think, but then they had to sell it all for pennies on the dollar. But by that time they had successfully infiltrated the auto industry as well as several others - the net result was simple; the rich got richer and jobs were lost. Same result with China but it will probably take longer. The different dynamic here are China's relationships (BRICs), something Japan didn't have.

At a minimum it is interesting to watch it play out...

[LetsGetPhysical]

Just think of all the sucker chinese who have bought into the overpriced California housing bubble and ridiculously valued NY condos.

[ali-ali-al-qomfri]

In Japan, the hand can be used like a knife.....

so they got that going for them.

[Omega_Man]

bah, wrong again...the BRICS are ahead of you... they are going to sell to themselves and boost incomes of their own populations... if Japan had any sense, they would join... Germany as well.... as then their products would be niche high end...

outside of the BRICS they will face high tarriffs cause of their love for the evil USA.

Wait till the trade walls go up... will be like the berlin wall... but we shall be on the poor side.

[dazednconfused]

What a piece of crap article that ignores all the economic and demographic fundamentals! China has a population of 1.4 billion people. In the last 10 years average income per employee has expanded 3 times more ($1,400 to $4,200). From 2000 to 2008, China was mostly responsible for the increased demand for commodities – by investments in infrastructure, roads, bridges, and cities – this time, the Chinese consumer will be the main contributor to the world growth. Due to Chinese consumer demand, average prices of major commodities – oil, gas, copper, zinc, wheat, soybeans, … – will increase dramatically.

[reader2010]

Good luck with that.

[HolyfieldsOtherEar]

Yes, it's a pretty silly thesis. China will look nothing like Japan.

A generation after its bubble burst Japan is still orderly, united, fairly egalitarian and prosperous. China will be none of those things.

The huge tensions between the tiny wealthy, connected elite and the masses of poor choking on unbreathable air and eating lead and melamine for breakfat will burst open. The many regions that didn't want to be part of China will get even more restive. And the Chicoms won't be able to bribe everyone to stick around anymore. Hell, the top echelons will all have left anyway.

I expect China to shatter into a dozen pieces within my lifetime.

[deflator]

These K Street and Wall Street meme generators have been saying China is like Japan ever since Clinton gave China preferred trading status and moved manufacturing base.

All your base(and gold) are belong to us

[Ms No]

A better question might be... why will Japan end up like dead?  It's not just Fukushima the fact that they decided to be a western vassal in China's back yard comes to mind.  Might as well put the Japanese on the endangered species list.

[Omega_Man]

Japan's standard of living will go down the toilet.....along with America's 

[RaceToTheBottom]

What a stupid graph of the US growth.

It shows a pullback indicating letting market forces have their way and then learning from it.

WTF.  That was not what happened in 2007-8.  The companies that caused the crash were not only not allowed to fail, the US bailed the shit out of all large and financial companies, in effect rewarding them for bad behaviour.

There was no learning our lesson.

The author is a moron or in-authentic in mis-portraying the US in trying make his point stronger.  A fluff writer.

[IronForge]

A bit too early to call it, IMHO.

First of All, the CNY is still "quasi-pegged" to the USD; and is not really free floating.  They WILL have a Net Trade Surplus with the USA for the foreseeable future.  JPN hs been forced to float its JPY vs the USD for at least two decades now.  Hence one of JPN's problems - relying too much on exporting to the USA; and doing everything (e.g., QE) to prop up the USD( and covering for their banks' bad loans and post bubble carnage).

Second, CHN isn't and buying USDs  by selling its own Bonds to JPN's levels yet (don't think they're doing it at all since they're pegged).

Third, CHN's 5th and 4th Quintile is getting lifted out of dire poverty by leaps and bounds; and their Middle Class's Purchasing Power is ever increasing.

Plenty of room for growth.  They just need to do a better job of not building ghost towns...

[LetsGetPhysical]

Remember the 80's when everybody thought Japan was going to buy up the US and take over world? Yup.

[RadioactiveRant]

The only thing China and Japan have in common is demographics, in every other sense they're worlds apart. Japan produces some of the best engineering in the world, China produces crap that breaks out the box and if it lasts long enough for you to use it will probably end up poisoning, or harming you in some way.

Creativity has been bred out the Chinese in the same way that self-sufficiency is being bred out of Westerners. Japan may be able to think its way out its demographic (but not financial problems), China hasn’t got a hope.

[Yakhont]

Moronic rubbish. Studiously ignores clear evidence that China is busy putting in place the fundamental pillars of disengaging completely from the corrupted and cynically manipulated western US controlled international financial and trade system, unlike Japan. The Chinese have been merchants and traders for 3000 years, not 200 years like the US!! They are not fools or amateurs. 

[MEFOBILLS]

Completely dazed and confused.  There is no excuse for this kind of blather article to be posted on ZH.

First of all Japan changed her banking system in the 80's to be in alignment with BIS.   Watch the movie, "Princes of Yen."  The money system, and what it predicates cannot be underestimated.  The money system is FUNDAMENTAL to understanding.

https://www.youtube.com/watch?v=p5Ac7ap_MAY

This is a very good documentary and worth the time to watch.  Actually, if one doesn't understand Princes of Yen, then one cannot understand today's Japan.

There is no excuse for not getting this right.  Japan used to have Industrial Capitalism, where she directed state credit into industry.  

The bubble that was blown in the 80's was a shift in policy by BOJ to target real estate.  This shift was ON PURPOSE, and intended to change Japan's trajectory.  Japan then became driven by FINANCIAL capitalism, where a paper Casino becomes a mirage of false wealth - a playground for financial Oligarchy.

In the 80's there were songs like, "I think I'm turnin Japanesa."  Why?  Because her industrial policy was essentially a war time policy of targeted credit.  

A small island nation threated to take over the world with efficient goods production.  This is a clear signal that humanity has production capability far in excess of our consumption needs.  

A proper economy would direct credit and money into productivity channels.  Those that are lame, stupid, old, too young...should not be working, and they don't need to be working.  The earth has plenty of bounty, but the money system predicates bad outputs.

https://www.youtube.com/watch?v=7tbobaz8nn4

China does that same thing as Japan did in the 80's, she also targets her credit via four STATE BANKS.  These STATE BANKS are NOT under control of the BIS.

As other commentators have noted, China is building out fundamentals, especially including Eurasian project and BRICS.

It gets tiresome that so many moronic articles get posted, and it confuses the average sheeple when they are exposed to this sort of ignorant tripe.