Japan

In his latest letter, Bill Gross, obviously for his own reasons, essentially channels Zero Hedge, and repeats everything we have been saying over the past 3 years. We'll take that as a compliment. Next thing you know he will convert the TRF into a gold-only physical fund in anticipation of the wrong-end of the "fat tail" hitting reality head on at full speed, and sending the entire house of centrally planned cards crashing down. "How many ways can you say “it’s different this time?” There’s “abnormal,” “subnormal,” “paranormal” and of course “new normal.” Mohamed El-Erian’s awakening phrase of several years past has virtually been adopted into the lexicon these days, but now it has an almost antiquated vapor to it that reflected calmer seas in 2011 as opposed to the possibility of a perfect storm in 2012. The New Normal as PIMCO and other economists would describe it was a world of muted western growth, high unemployment and relatively orderly delevering. Now we appear to be morphing into a world with much fatter tails, bordering on bimodal. It’s as if the Earth now has two moons instead of one and both are growing in size like a cancerous tumor that may threaten the financial tides, oceans and economic life as we have known it for the past half century. Welcome to 2012...For 2012, in the face of a delevering zero-bound interest rate world, investors must lower return expectations. 2–5% for stocks, bonds and commodities are expected long term returns for global financial markets that have been pushed to the zero bound, a world where substantial real price appreciation is getting close to mathematically improbable. Adjust your expectations, prepare for bimodal outcomes. It is different this time and will continue to be for a number of years. The New Normal is “Sub,” “Ab,” “Para” and then some. The financial markets and global economies are at great risk."

As households are supposedly deleveraging and European nations face austerity, one might suspect that global debt levels were stabilizing or even dropping. Think again. It will likely come as no surprise when we point out that the G-7 nations alone face a massive $7.3 Trillion (with a T) of sovereign-only maturities (and a further $566 Billion in interest payments) in 2012 alone. This incomprehensible number is worsened only in historical comparison as it's current level is 125% higher than was 'expected' at the end of 2010 (and 238% higher than was expected for 2012 at the end of 2009). As Bloomberg points out, Japan tops the list with $3.05tn (equivalent) followed the US at $2.76tn for 2012 as the former peaks in March 2012 (with $678bn due in that month alone) and the latter peaks in this month with January 2012 seeing over $480bn due to mature (and be rolled). But it gets worse for supply - global corporations (dominated by Financials relative to non-Financials), as noted by S&P today, have used the low interest rate environment to modestly relever and face almost $1 Trillion (again with a T) of maturing debt that will need to be rolled in 2012 (with January and March also topping the list) and over $3.1Tn in the next four years. So in the next four years, amid a slowing demand picture thanks to European worries, global corporate debt combined with G-7 sovereign debt maturing is an incredible $18.48 Trillion that will need to be rolled, rehypothecated, and have capital allocated to it (or not).

There are dim lights at the end of the seemingly darker and darker tunnel. The proposed sanctions legislation allows Obama to waive sanctions if they cause the price of oil to rise or threaten national security. Furthermore, there is the wild card of Iran’s oil customers, the most prominent of which is China, which would hardly be inclined to go along with increased sanctions. But one thing should be clear in Washington – however odious the U.S. government might find Iran’s mullahcracy, it is most unlikely to cave in to either economic or military intimidation that would threaten the nation’s existence, and if backed up against the wall with no way out, would just as likely go for broke and use every weapon at its disposal to defend itself. Given their evident cyber abilities in hacking the RQ-170 Sentinel drone and their announcement of an indigenous naval doctrine, a “cakewalk” victory with “mission accomplished” declared within a few short weeks seems anything but assured, particularly as it would extend the military arc of crisis from Iraq through Iran to Afghanistan, a potential shambolic military quagmire beyond Washington’s, NATO’s and Tel Aviv’s resources to quell. It is worth remembering that chess was played in Sassanid Iran 1,400 years ago, where it was known as “chatrang.” What is occurring now off the Persian Gulf is a diplomatic and military game of chess, with global implications.

• Market talk of a French sovereign downgrade continues to do the rounds – Unconfirmed
• German Unemployment Change (000's) (Dec) M/M -22K vs. Exp. -10K (Prev. -20K, Rev. to -23K)
• EU says the commission and member states have submitted amendments for new EU treaty

The new year’s worldwide economic downturn has an interlocking effect: every national economy is searching to accommodate itself politically as well as economically to what looks to be an extended period of low growth. After longer or shorter periods of historically unrivaled prosperity, they are feeling for a “bottom” – a level to wait out new growth. That is the proverbial “soft landing”.

As expected yesterday, when the US went out full bore with a Japan-lite approach of McCollum-like strategy of leaving Iran no option but to keep escalating until finally the US has enough public support grounds for a response, in under 24 hours Iran has launched a second missile, this time not a medium-range SAM to a long-range shore-to-sea missile. Needless to say, the US 5th Navy is watching these quite welcome developments with great interest. From Reuters: "Iran said on Monday it had successfully test fired a long-range missile during its naval exercise in the Gulf, flexing its military muscle to show it could hit Israel and U.S. bases in the region if attacked. The announcement came amid rising tension over Iran's disputed nuclear programme which Western powers believe is working on developing atomic bombs. Tehran denies the accusation and last week said it would stop the flow of oil through the Strait of Hormuz if the West carried out threats to impose sanctions on its oil exports." At this point it is glaringly obvious to all but the most confused that the US is consistently pushing Iran to escalate further and further, until such time as the US ships stationed in Bahrain say enough and decide it is time to sink some boats.

While we’re not bubbling over with optimism, we believe the New Year will be anything but boring. 

The political press has been abuzz with over the much anticipated signing of the NDAA by Barack Obama on Saturday: this move was not surprising because Obama had already made it clear he would go ahead and enact the law, even though he added some 'stern' language that is supposed to legitimize what some say is a precursor to the establishment of martial law in the US. To wit: "The fact that I support this bill as a whole does not mean I agree with everything in it. In particular, I have signed this bill despite having serious reservations with certain provisions that regulate the detention, interrogation, and prosecution of suspected terrorists." And yet he signed it (full text of Obama's statement on the NDAA, sent while on vacation in Hawaii, can be found here). Perhaps the reason for that unpopular move were some of the more nuanced contents of the Bill, among which is the decision to fully boycott not only Iran, but any bank, including central bank, and other financial institution found to deal with Iran. Which incidentally means most of Russia and China, and probably half of Europe, as all petrodollars generated by the country's petroleum export industry first have to make their way via the international financial community back into the country. The history buffs out there will realize that this form of couched antagonism is nothing short of the US approach to Japan during World War II, which was essentially provoked into attacking Pearl Harbor - read the details of the October 7, 1940 McCollum Memo here, and especially bullet point 10. And unfortunately, it appears that within 24 hours or so, Iran may have already taken the bait. As Reuters and BBC report, Iran has both test-fired a medium-range SAM during the ongoing wargames exercise previously discussed here, as well as made a formal announcement it has made and tested domestically made nuclear fuel rods: precisely the event that the Israel or US-borne Stuxnet was designed to prevent. So as the tennis match of escalation keeps on growing the ball is now once again in the US' court.

Continuing our tradition of listing what according to Zero Hedge readers were the key news events of the year for the third year in a row (2009 and 2010 can be found here and here), we present, as is now customary, the most popular posts of the year as determined by the number of page views, or said otherwise - by the readers themselves. So without further ado, here are this year's top 20.

It seems that it is not just the Europeans that are USD cash starved heading into year-end as the Swiss and Japanese gorged themselves on two-week maturity FX swap lines during the last week. The total outstanding under the Federal Reserve's USDollar Liquidity Swap Operations jumped from $62.599bn to $99.823bn - or more than 59% during the week ending 12/28. Admittedly, the size of the additional Swiss draw-down, $320mm more compared to $75mm the previous week, is a drop in the bucket compared to the ECB's additional $33bn this week. However, the more-than-$9bn additional draw-down by the Bank of Japan perhaps helps explain why USD-JPY cross-currency basis swaps eased so much this week (as the desperate need for USD through this counterparty-risk-exposed form of funding reduced by around 12bps or more than 25%). Perhaps it is time to take a closer look at some of the Japanese banks as while the stigma of borrowing from these lines is talked down, clearly there are funding/liquidity needs that are rising dramatically.

In this interview we had a chance to discuss Paul Krugman’s  latest bearish article on China, the linkage between the European crisis and Chinese and Japanese bubbles.  We revisited sideways markets, profit margins (I picked a bone with Apple’s high margins), and concluded with Microsoft.

In addition to the current Euro crisis, Japan, the world's third largest economy, could have its own debt crisis bigger than the Euro Zone as early as 2012.   

In the wrong direction. And the finance minister's solutions: a consumption tax and a miracle....

While the world is watching Europe and the US for signs of imminent decoupling, and now has added China to its insolvency focus list, things in Japan, which is "fine" courtesy of a self-destruct autopilot, are just getting plain ridiculous. As we reported earlier this year, Japan's marketable public debt, already the largest in the world at $11.2 trillion compared to America's $10 trillion (of course this assumes the whole SSN sleight of hand is funded, which it isn't), is due to surpass ¥1 quadrillion any month now (aka the exponential phase). And that's just the beginning. As Bloomberg reports, "Bond sales to the market will climb to a record 149.7 trillion yen ($1.9 trillion), while the national budget’s reliance on debt for funding will rise to an unprecedented 49 percent in the year starting April 1, Japan’s government said Dec. 24. The government said it plans to sell 44.2 trillion yen of new bonds to fund 90.3 trillion yen of spending in next fiscal year’s budget. It estimates that tax revenue will total 42.3 trillion yen in fiscal 2012, meaning that new bond sales will exceed tax revenue for a fourth year." In other words, in a world increasingly disconnected form any sort of reality, very soon no taxes at all will be needed: after all each and every government (or uber-union in teh EU's case, once the imploding Eurozone turns to the final Deus Ex - a fiscal protectorate issuing joining Eurobonds) will simply fund all its cash needs by printing its own money. Naturally, anyone daring to suggest that this is beyond idiotic will be given an MMT 101 manual and/or incarcerated for grand treason. And any last voices of sanity will be promptly muted: "I think the reliance on bonds to compile budgets is reaching its limit,” Japanese Finance Minister Jun Azumi said Dec. 24, after the announcement of the budget plan.

Scouring through the news screens, we nearly fell of the proverbial chair after reading the following Bloomberg headline paraphrasing a Nikkei report: "Japan May Buy Chinese Govt Bonds, Nikkei Says....Japan is seeking to diversify forex funds and strengthen economic cooperation with China by helping make yuan more international. Japan may purchase a total of $10b worth in stages." Naturally, there are two interpretations: the ugly one is that Japan, the 3rd largest holder of US debt after the Fed and China, is considering gradually abandoning the dollar or, as the term is better known in polite circles "diversifying." The second one, and the far more amusing one, is that Japan will somehow bail out China by providing the much needed credit money that will translate into GDP (at a sub 100% ratio of course, because as is well known by now the world has reached the stage where one unit of debt generates less than one unit of incremental growth). The reason why this is amusing is because as the chart below shows, Japan's debt is now a hair's width below ¥ 1.... quadrillion. And yes, ignore the fact that the demographic squeeze in Japan is already forcing households to proceeds to monetize the largely domestically held debt. So, we wonder, where will the JGB debt curve go next in the deflationary basketcase that is Japan? As for where it has been, see below.