Chinese Business Media Cautions Japanese Bond Bubble Is Ready To Burst, Anticipates 40% Yen Devaluation

Tyler Durden's picture

It is a fact that when it comes to the oddly resilient Japanese hyperlevered economic model, the bodies of those screaming for the end of the JGB bubble litter the sides of central planning's tungsten brick road. Yet in the aftermath of last month's stunning surge in the country's trade deficit, this, and much more may soon be finally ending. Because as Caixin's Andy Xie writes "The day of reckoning for the yen is not distant. Japanese companies are struggling with profitability. It only gets worse from here. When a major company goes bankrupt, this may change the prevailing psychology. A weak yen consensus will emerge then." As for the bubble pop, it will be a sudden pop, not the 30 year deflationary whimper Mrs. Watanabe has gotten so used to: "Yen devaluation is likely to unfold quickly. A financial bubble doesn't burst slowly. When it occurs, it just pops. The odds are that yen devaluation will occur over days. Only a large and sudden devaluation can keep the JGB yield low. Otherwise, the devaluation expectation will trigger a sharp rise in the JGB yield. The resulting worries over the government's solvency could lead to a collapse of the JGB market." It gets worse: "Of course, the government will collapse with the JGB market." And once Japan falls, the rest of the world follows, says Xie, which is why he is now actively encouraging China, and all other Japanese trade partners of the world's rapidly declining 3rd largest economy to take precautions for when this day comes... soon. Oh, and this: " If the bond yield rises to 2 percent, the interest expense would surpass the total expected tax revenue of 42.3 trillion yen."

Why has Japan been able to sustain its deflationary collapse for over 3 decades? Simply - an ever rising currency.

A strong yen, deflation and rising government debt form a short-term equilibrium that lasts as long as the market believes it is sustainable. The yen has seen a relentless upward trend since it depegged from the dollar in 1971, up to 83.4 from 360 again to the dollar. When wages and asset prices rise, a strong currency can be justified. When wages and asset prices fall, a strong currency is suicide. Japan's nominal GDP peaked in 1997 and its nominal wages did too. Its property prices have declined every year since. The Nikkei rose in only four out of the last fifteen years and is still close to a three-decade low.


Japanese policymakers, businesses, academics, currency traders and the average Mrs. Watanabe all believe in a strong yen. This belief is wrong but self-fulfilling. It has lasted so long because the Japanese government adopts policies to offset the destabilizing effects of deflation due to a strong yen. Hence, Japan's national debt has marched upwards along with the value of yen. It is expected to top yen 1,000 trillion in 2012, 215 percent of GDP, 7.8 million yen (or roughly US$ 94,000) per person, and about half of net household wealth per capita.


The sustainability of Japan's deflationary path depends on the market's confidence in Japan's debt market. As Japanese institutions and households hold almost all of the government's debts, their faith in the government's creditworthiness is the mojo for Japan's seemingly harmless deflationary spiral.

There's that. And also that it is nothing but a ponzi. In Xie's words.

The justification for the low JGB yield is deflation. The real interest rate (the nominal rate plus deflation) is comparable to that in other countries. This rationale requires deflation to persist. But, deflation shrinks the nominal GDP or tax base. How could the government pay back its escalating debt by taxing a shrinking economy? It can only sustain its debt by borrowing more. This fits the definition of a particular type of Ponzi scheme.

Deflation is ok, if in addition to collapsing GDP, it is paralleled by declining wages.

The JGB bubble explains the seeming lack of pain in Japanese society. A strong yen and deflation haven't led to an employment crisis because the government deficit is pumping up aggregate demand. As long as wages decline in line with prices, one doesn't feel the pain. Japan's household debt is only half of GDP, about half of the level in the United States. Deflation doesn't cause much balance sheet trouble.

Unfortunately this is unsustainable by definition, as the divergence is a finite series at which point it become self-destructive. And yet the strong Yen is the glue that ties the rickety house of cards together... for now.

Despite the fact Japan has had a bad economy for so long, the yen has remained strong. It reinforces the Japanese psyche on the issue. The strong yen has become a cult.


The international financial market believes in a weak yen from time to time. In 1998, the short-selling by foreigners briefly caused the yen to touch 140 against the U.S. dollar. But, as the Japanese hold all of the yen, if they believe in the yen, foreign short-sellers get punished eventually. Over time, yen bears are all weeded out of the market. The remaining yen traders are all believers in a strong yen.

So far so good: any cult can exist in its own bubble if left to its own devices. However, as much as it is trying to avoid it, Japan's secular role in international society is changing, and very soon the habitual self-delusion of its citizens, politicians, and FX traders will do nothing to offset the advent of reality.

While the Japanese can always take care of business within, they cannot control the outside world. The country's Achilles heel is losing trade competitiveness due to the destructive impact of deflation on business confidence and the strong currency itself. When a trade deficit emerges, it signals the beginning of the end.


Japan has lost competitiveness in a swath of industries that it used to dominate. Its automobile industry is losing out to Germany, South Korea and the United States. Japan's automobile industry used to be competitive in cost and far superior in quality to its global competitors. But the world has changed. The yen has dropped below 110 from as high as 160 against the euro. The South Korean won was about ten against the yen and is now 13. Cost-cutting cannot offset such a big change in exchange rates. The U.S. auto industry cut its labor costs and debt burden through the government bailout. It is now more competitive than Japan's.


The automobile industry is the pillar of Japan's economy. Its decline leaves Japan's economy nowhere to turn. Indeed, if the auto industry leaves Japan, it will become a poor country.


Japan's electronics industry, still significant to its economy, is losing out big time to its Asian competitors. Nothing hot in electronics is made in Japan now. U.S. companies like Apple leverage China's manufacturing sector to turn out hot products. South Korea is embracing the vertically integrated model and churning out competitive products like Japan used to.


Nothing symbolizes Japan's decline like its electronics industry. It was the envy of the world and had all the ingredients to take the industry into the mobile internet era. Instead, it embraced insulation and made products just for the Japanese market. Now it is almost irrelevant to the outside world.


Japan isn't just facing macro troubles. Its micro competitiveness is rotting away. It is just bizarre to see that the whole world believes in a strong yen when Japan is failing on such a grand scale.

This is especially true in the aftermath of the Fukushima disaster, when one of the primary drivers of economic growth - energy creation, has collapsed, and as of Today Tepco has shut down its last reactor. Thus an energy crisis imminent. It will also accelerate the transition of Japan from a trade surplus to deficit econoy. In this case the trend is certainly not Japan's friend.

Japan's trade balance may swing into surplus from time to time, but the negative trend is irreversible. Japan will face rising trade deficits. That makes foreigners' views important because Japan would need foreign money to fund its deficit. When foreigners change their views, which they surely will, the yen will crash.

There is only one controlled way out for Japan: take the pain now, or let a veritable epic econoic collapse sweep everything that Japanese society stands for. Recent overtures by the BOJ show it understands what has to be done. It is, alas, not doing it fast enough.

Japan has only one way out – a massive devaluation. If the stable national debt is 120 percent of GDP, the yen needs to be devalued by 40 percent because devaluation is ultimately equal to the nominal GDP increase. The devaluation is likely to sustain 2 percent to 3 percent of nominal GDP growth for Japan beyond the repricing induced increase, which is necessary to restore Japan's tax revenue. Deflation has caused Japan's tax revenue to decline as a share of GDP. It can be only reversed through restoring nominal GDP. A devaluation of 40 percent can restore Japan's competitiveness against Germany and South Korea, which will lay the foundation for Japan's industrial recovery.


The Bank of Japan is trying to weaken the yen through expanding its balance sheet. It has an asset purchase program of 65 trillion yen and a lending program of 5.5 trillion yen. The two are equivalent to 15 percent of GDP, comparable to what the Fed or European Central Bank have done. The effectiveness is limited so far. Because Japanese businesses, households and investors believe in a strong yen, the printed yen largely stays in the country and just slows down money velocity. The U.S. dollar has risen 10 percent against the yen from last year's bottom. This is probably due to the financial market upgrading its view of the U.S. economy rather than the BoJ's action.

To Andy Xie, the day of reckoning has never been nearer. And to those who have grown disenchanted with the Kyle Bass view of an epic JGB bubble pop, it may be time to refresh your lost cost hedge. Because a devaluation, to be truly effective, will not be visible from a mile away: it will be sudden, and very, very shocking, unless the government opts for the worse of to evils - a bond market collapse.

Yen devaluation is likely to unfold quickly. A financial bubble doesn't burst slowly. When it occurs, it just pops. The odds are that yen devaluation will occur over days. Only a large and sudden devaluation can keep the JGB yield low. Otherwise, the devaluation expectation will trigger a sharp rise in the JGB yield. The resulting worries over the government's solvency could lead to a collapse of the JGB market. Of course, the government will collapse with the JGB market.


The day of reckoning for the yen is not distant. Japanese companies are struggling with profitability. It only gets worse from here. When a major company goes bankrupt, this may change the prevailing psychology. A weak yen consensus will emerge then.

Finally, no matter how it's spun, the outcome, whether a 40% JPY deval, or a JGB bubble pop, will have devastating consequences on both the regional, and global economy.

A yen collapse will impact China and South Korea most, just like in 1998. It will trigger substantial weakness in their industries. If a banking system succumbs, the shock can bring down an entire economy, as South Korea's experience in 1998 demonstrates.


Both China and South Korea have weak banking systems. South Korea's banking system is one of the most leveraged in the world due to high level of household loans. In 1998, a similar shock sank its banking system that was overleveraged with industrial loans. Now it is overleveraged with household loans. A shock could sink it again.


Overinvestment and a property bubble make China's banking system very vulnerable to such a shock. Unless China substantially increases the capital in its banking system, a big yen devaluation could cause China's banking system to sink. China suffers from overinvestment and a property bubble, as Southeast Asia and South Korea did in 1997. In terms of the magnitude of leverage, China's situation is much worse. Hence, a yen devaluation could wreak havoc to China's economy.

Perhaps there is a reason why the global market (not US stock futures of course - those only care what comes out of the Chairman's mouth) is so very concerned with what is happening in China right now: perhaps the Chinese hard landing (which will come, no doubt about it) is not so much an underlying cause of the Chinese malady but a symptom of the Japanese deflationary unwind, which like a tsunami will drag first the Koreas, then China, then Southeast Asia, and finally the world underwater. And this time no amount of trivial Greece-like headline posturing ad headlines will have any impact whatsoever. 

Yet following all that, we fully expect nothing to change, because the entire world is now hypnotically rushing toward the cliff, very likely bringing Dow 36,000 with it, if only for one instant, because with nothing getting fixed, the moment of global euphoria will be truly transitory. It will be then followed by an all out deflationary collapse... or much more likely since in this day and age printing a trillion, quadrillion or quintillion, is only a CTRL+P keystroke away, hyperinflationary.

And just to show the sensitivity of the world's most indebted nation to interest rates, here again is Andy:

Even though the yield on 10-year Japanese Government Bonds (JGB) is only 1 percent, the interest expense is expected to top 22.3 trillion yen in the fiscal year that begins next month. This is one-quarter of the general account budget. If the bond yield rises to 2 percent, the interest expense would surpass the total expected tax revenue of 42.3 trillion yen.

Yup: a mere "surge" in interest rates to a whopping 2.00% will destroy the Japanese economy.

Good luck.

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Spacemoose's picture

"For starters, Japan has $1.3 Trillion in Forex reserves. They will spend this and can fund their imports for many years before they have a problem (that spending will counteract any fall in Yen value as it will drive the Yen higher against the Dollar). "

so what happens here when Japan begins to export our inflation back to us?  i repeat myself, but anything that can be exported (food, gold, refined petroleum) is going to inflate like crazy and anything that cannot be exported (community organizers, massage parlors, baristas) will deflate. 


i_fly_me's picture

You are leaving out an important component of Mr. Bass's analysis; namely, that the Japanese demographic debacle has hit the tipping point and begun to accelerate.  The transition from majority savers to majority spenders is dead ahead and the operative word here is "dead."  I believe his outside prediction is 3 years for Japan and I see no reason to doubt it.

spanish inquisition's picture

$1.3T should cover phase 1 of northern Japan decontamination.

mkkby's picture

Good comment.  I'll add this.  Simply put, the strengthening yen means the JCB is not printing as fast as the Fed or ECB in relative terms. 

All they have to do is print faster to keep up in this game of competitive devaluation.  They need to do that pronto or their export markets will die.

I don't think there will be a crash any time soon.  First we need to see the debtor European countries "go Greece".  Then the UK, then maybe Japan.  Last the US.

magpie's picture

Doesn't matter, since they will be selling their (functioning ?) AEGIS cruisers to South-East Asian nations.

GeneMarchbanks's picture

Is this before or after being struck by a NK missile?

magpie's picture

uh sell the ship, then the missiles ?

SillySalesmanQuestion's picture

They just gave the Bernank props on CNBS for making it a very green day...LMAO

tony bonn's picture

"...When a major company goes bankrupt, this may change the prevailing psychology..."

tut tut tut! there shall be no major bankruptcies even if bernankula has to hire every unemployed person in america to print more fake money.....bankruptcy? how 1930s......

Conax's picture

The Fukushima disaster isn't calculated in, at least not heavily enough. I wouldn't care to buy a car or motorcycle manufactured there anymore. Not without a geiger counter check or something. I have been waiting for the JPY to drop, just because their export industry seems likely to suffer. But what do I know?

This will cause the dollar to rise a bit, and damage my damn silver returns.. Arrrgh.

Everything that happens seems to be against me all the time, but I am not a paranoid. I'm not.

LongSoupLine's picture



That very well could be a "trigger event", when some curious retailer or consumer takes a geiger counter to their "product" (i.e.- car, stereo, gaming system, TV, etc) and gets a mega spike.

Robslob's picture



I give a shit about Japan and China...what happens to the "price" of my gold!?!

Triple A's picture

things seem to be heating up a little bit and it aint just the weather.

Ted Baker's picture


Frozen IcQb's picture

Like the US and the UK, Japan’s economy is heading of the cliff. Their population is aging rapidly and both their private pensions and social security benefits are mostly un-funded. Savings are declining. Japan has very little energy and natural resources. Commodities are imported. This was not a problem while Japan was running a massive trade surplus. The GDP was supported by exports and a cheap yen supported an economy of exporters. The BOJ intervened constantly to maintain a cheap currency. As a result, they have accumulated huge FX reserves of which 1,000 billion is denominated in USD and parked in US treasuries.

Here’s the game changer: The global economy is slowing. Japanese manufacturing jobs are moving to other Asian countries. Japan needs energy and commodities to rebuild its infrastructure. 30% of their electricity generating capacity has vanished because all their nuclear power generators are now offline. Energy imports have soared. They are now running a trade deficit with the US and China that will likely continue. This trade deficit will force a change from a weak Yen to a strong currency policy to facilitate their infrastructure reconstruction through cheaper imported material and energy. Their debt to GDP is over 200% and that’s excluding the unfunded liabilities. They need money and printing is no longer to their advantage because it makes imports more expensive. The incentive for a weak currency is no longer there. Consequently, I believe they will repatriate some of their USD FX reserve made possible by selling USD assets. Selling US assets and dollars for yens will exert downward pressure on the USD/JPY pair. A rapid unwinding of the Japanese carry trade will follow. US import prices will escalate as a result to the detriment of over-leveraged and unemployed American consumers.

This could most likely be the single largest threat facing the US economy in 2012-13.

Dr. No's picture

Your two paragraphs gets deeper into the real issues than most of these headline pump and dumpers.  Thanks.  Long FXY.

DosZap's picture

Frozen IcQb

US import prices will escalate as a result to the detriment of over-leveraged and unemployed American consumers

BAD news for Japan, and anything made there,sold here & made here.......................

Folks will buy anything BUT Japanese.

I am seeing more and more(and I mean MORE), Kia's, and Hyundais,on the streets..........their everywhere you look.

These are eating more into the Nissan/Toyota  business than American makers IMHO.

Higher import prices to people on PB&J sandwitch budgets, are not in the cards.

Bring on the YUGOS.

FeralSerf's picture

"They need money and printing is no longer to their advantage because it makes imports more expensive."

Conversely, money printing should tend to make their exports less expensive and more competitive on the world's market. The Japanese still know how and are still able to make good stuff, but they've been at a severe disadvantage by the expensive JPY. If they can sell their exports, they will have money to pay for the imports. Value added is what they're good at.

Normalcy Bias's picture

Another home run for Kyle Bass...

SDRII's picture

Bass is  the latest on the long list of those puttiing on the widowmaker trade

With ZIRP who needs the Yen carry or an Isuzu

Stackers's picture

Follow the inert gray brick road .... follow the inert gray brick road ... follow, follow, follooow .... follow the inert gray brick road .... we're off....

Paul Atreides's picture

Caution we have a biege alert!

Stackers's picture

"Japan is a bug in search of a windshield" ------ John Mauldin

fpcallc's picture

"The odds are that yen devaluation will occur over days. Only a large and sudden devaluation can keep the JGB yield low. Otherwise, the devaluation expectation will trigger a sharp rise in the JGB yield. The resulting worries over the government's solvency could lead to a collapse of the JGB market."

A sudden 40% devaluation keeps JGB yield low!?!?!?

OK, help me out here. What am I missing? If the Yen is devalued by 40%, this means that the 10 yr JGB I'm holding is worth less because my stream of payments from my JGB is now worth less in relation to other currencies. How is it that yields don't rise in a comensurate fashion to make up for this sudden devaluation, but a slow devaluation would raise yields? Seems to me ANY substantial devaluation, sudden or gradual, would raise yields?

bidaskspread's picture

North Korea ballistic missle launch April 15  + Patriot missles deployed to Tokyo + Us President states to N. Korea " have the courage to persue peace" = The Yen's Looming Day of Reckoning by Andy Xie.

Zola's picture

How can there be a big devaluation without weakness in the bonds ??? That would unleash inflationnary expectations i think.

Dr. No's picture

Long FXY.  I am thinking about adding due to this contrarian indicator.

farmerjohn2112's picture

heh... "tungsten brick road"

+1 for Tyler

Belarusian Bull's picture

Ore wa totemo kanashiku natte kimas... :(

mick_richfield's picture

And yet, it is said:

Kudasai, inryou sui no funsui ha hainixyoushi masen.

Papasmurf's picture

How does the yen differ from usd in this devaluation?

mick_richfield's picture

I don't understand how the lights are still on in Nippon, with all their nukes shut down.

I can't believe that they had that much spare generating capacity sitting around.

How are they keeping the lights on?

Reven's picture

No!  Paul Krugman said this is impossible, because Japan has the money printing.  Move along people, nothing to see here!



slewie the pi-rat's picture

chinese propaganda, imo

japan is right there in asian w/ china, buying, selling, organizing, vying for trade, profits, control, and currency acceptance

japan just devalued and china is shitting a brick, hence this rhetiric about collapse~~a threat to intervene themselves, just as heavy-handedly~~

japan's respose will be be to moon them

jrpuffnstuff's picture

My Avatar belongs here!

Thamesford's picture

The land of the falling Yen?

kekekekekekeke's picture

My 25 year old brother taught ESL in Japan for 2 years, I visited last summer against the advice of some commenters here and it was pretty rad, took a loooot of potassium iodine before/after/during

my brother came back 6 months ago, now his parathyroid is totally shot, he's needing surgery.  could be coincidence...

Curve Watcher's picture

And Bass had been so ridiculed for getting his mortgage denominated in yen.

Bubble's picture

Unfortunately for the Japanese, there has been a rather successful media campaign for at least a year now telling the citizenry to take advantage of the gold price and sell any holdings. To the point where on some days there are queues out of Ginza Tanaka of people hitting the bid for their jewellery/maple leafs.

Decolat's picture

All the Japanese nuke reactors are shut down. Their electricity supply is down 30%. A fine time for the bill collectors to come knocking. A fine time for competitors of Japanese products to annihilate them. 

I can't see how Japan is going to get out of this alive.

lolmao500's picture

When you look at it all, you know that Japan is fucked for the next few decades. If I were Japanese, I would get the fuck out of there.

falak pema's picture

So now the three pillars are all cracking; US, Jap, Euro and lil ole UK. Dilma goes to India for a BRIC meeting. They plan to have a joint armaments and defense strategy by pooling resources; as both countries do not have a home defense and armmaments industry...Big changes in the DC pipeline. 

EmileLargo's picture

India is already in trouble. Check out what is happening to the currency. We have a chaotic and unrepdictable few years ahead, to say the least.

lolmao500's picture

At the dawn of the millennium, the nation collapsed. At 15% unemployment, 10 million were out of work. 800,000 students boycotted the schools. The adults lost confidence and, fearing the youth, eventually passed the Millennium Educational Reform Act, AKA the BR Act...


pashley1411's picture

I'm not getting how a devaluation, which will hit Japaneese savers, will improve the national wealth of the country.

A devaluation would improve export%/GNP%, if you think of Japan as returning to the 1950's economic model as a lower-wage producer of manufacturered goods.   That would take an ungodly fall in national wages.   And, if I understand Austrian economics, a crash in national wealth would also also cut into national consumption.    

I just don't think any sane Japanese politician would let that happen, but would, instead, play out their American forex reserves for all they are worth, beforehand. 

Dingleberry's picture

The yen got stronger because of the reversal of the carry trade by Mrs. Wantanabe and the huge amount of cash that had to be repatriated. Japan has been living with ZIRP forever, and the only way to make any money is to do forex. Forget the Nikkei.  Japan has a long history of trying to keep their currency low. But they had to start playing ball in the 80s or else. I remember about 300 yen to the dollar.  Eventually their currency will go down as their debt is massive, albeit self-funded. But eventually the funds run out as their trade balances are going negative.  I know people there, and morale is crap. The writing is on the wall. The bubbles that collapsed (RE and stock), along with ZIRP, really did them in. The tsunami didn't help either.