Japan

Fears America is "turning Japanese" have been rampant ever since our real estate
bubble burst.

Just as Japan's policymakers were unable to stave off deflation after their
credit bubble burst in 1989, despite their best efforts, conventional wisdom
holds that all of Ben Bernanke's "reflation" policies will ultimately be
overwhelmed by deleveraging and debt destruction.

Bull Bear argument

Earlier, the Japanese government approved the BOJ decision to monetize in addition to the traditional JGB securities, also ETFs, REITs, and BBB and higher-rated bonds. In other words, the BOJ is now permitted to do what the Fed will have authority to do with a few months: buy virtually all risk assets, as buying ETFs is the same as buying the general market courtesy of the most traded security in the world, SPY, to push and pull the entire market in whatever direction it goes. There are two questions at this point: is the BOJ allowed to buy foreign (read US) assets that fall under the above buckets, and whether the FX currency swap line recently established with the BOJ will allow the Fed to use Japanese proxies to monetize various US assets. Or will the Fed first seek input from the BOJ on how to proceed with sending the Dow to 36k.

Interview with Vitaliy Katsenelson on the challenges facing China and Japan and the implications to the rest of the world.

A quick look at gold price action demonstrates that someone somewhere is actively debasing currencies. An even quicker scan of headlines confirms this to be the case: per Reuters "Bank of Japan Governor Masaaki Shirakawa said on Wednesday the central bank will consider expanding a new scheme for buying assets ranging from government bonds to exchange-traded funds when deemed necessary." Harakiri Shirakawa continued: "We have taken a very bold measure ... If the need arises in the future, making further use of the new fund as part of monetary policy is one of our strongest policy options." Judging by the chart below, either gold has a tent in its pocket or was really happy to hear this announcement.

Oh shit is it on. Japan decided to cut their rates to 0%, the ISM released a number slightly more than a nut hair above guesses, and the lovely yet vibrator-challenged Christine O'Donnell assured voters that she is not a witch (and Money McBags is 95.6% sure that is a real video).

War does not determine who is right, only who is left. - Bertrand Russell

Just as everyone was expecting things between China and Japan to moderate quickly following the fishing trawler incident, things just got heated again. Early Sunday, Japanese PM Naoto Kan violently rejected China's demand that Tokyo apologize and compensate for detaining a Chinese fisherman. The PM has already suffered stinging critique at home for relenting to release the boat captain after Chinese pressure, demonstrating just how tight tensions between the two countries remain to be, especially when it comes to how weak they believe they are perceived by the international community. "Senkaku is a Japanese territory. From that point of view, apology or compensation is unthinkable," Kan told reporters. "I have no intention at all of meeting (the demand). Both sides should first become calm and (then) deepen mutually beneficial strategic ties. What is necessary is for both to calm down and act based on a broad perspective."And while the boating incident occurred near islands in the South China Sea where the waters are believed to be rich in oil and natural gas, the last thing this spat is about is commodity access: it is all about the historical animosity between the two cultures, and with China's economy on the ascent, and owning more American IOUs than Japan, one can see why the Japanese sense of sovereign pride may have been challenged.

As we have been expecting, the literature coming out of the investment banks analyzing the "Japan case", and specifically how it pertains to the US and the rest of the world, is coming hot and heavy. Yet the attached report by Soc Gen Klaus Baader and team could well be the definitive analysis on the topic. While we do not necessarily agree with the paper's finding, which is simply that "Japan is not the endgame", the multivariate analysis conducted is second to none. And another key topic analyzed by the Soc Gen economists is whether EM growth can offset the deleveraging in the mature economies: a topic near and dear to Jim "BRIC|N-11 Decoupling" O'Neill. Here the conclusion is more palatable: "We see the Chinese economy following Japan, but more of Japan in the 1950s and 1960s. Chinese policy makers also see this repeat pattern, but are taking steps to avoid the preconditions of a bubble economy that afflicted Japan in the 1980s." The paper's conclusion is presented with just the right dose of optimism and pragmatism (it does after all come from a sell side team): "Managing capital inflows is the next challenge. FX adjustments, fiscal and monetary tightening, domestic prudential regulation, and capital controls are the tools available to manage these inflows. These have significant investment implications. Further, slippages could exacerbate global imbalances and slow growth and other needed reforms."

Now that the United States has had its own real-estate bubble pricked, a lot of smart people have been selling the idea that the U.S. will experience what Japan has experienced. But as a look at the balance of payments shows, Americans and their government have gone into massive debt with the rest of the world, in order to finance all their spending over the last 35 years. Japan, meanwhile, has been carrying a current account surplus. Therefore, the Japanese government has been borrowing money not from overseas, but from its own citizen’s savings. All of the Japanese government’s stimulus spending has been paid for by the Japanese people. This is the main difference between the United States and Japan. It should be obvious—and ominous—what this difference means. —Gonzalo Lira

The WSJ is out with a short piece about new rumblings coming from Japan's $1.43T public pension fund, Japan's Public Pension Weighs New Investments. If I may be so bold as to impersonate the Japan deflation-blogger Mish for a moment, let's take a look at a few of the dynamics at play as reported by the WSJ. I'll provide some commentary along the way.

Markets and more generally the world are at a very interesting juncture. In physics, every system basically attempts to find a state of equilibrium. If a system that is in a state of equilibrium receives or loses energy from/to another system it can lead to a change in the state of equilibrium. Transitions at the micro level happen in steps even though looking at the world it seems like continuous evolution because what we witness is all the different systems that compose the universe in constant interaction. When a system is pulled with extreme force into two different directions it could appear like it is in a state of equilibrium, but the most minute change could lead to a drastic change in the system's state. An anecdotal example of this was offered to us a little over a decade ago when a group of illuminated brain surgeons decided to break the tug of war world record. For those like me who really don't understand what the world record of tug of war can be, it's just putting a record number of people pulling on each side. The experiment went wrong when after a few seconds of stand-still the tension in the rope exceeded capacity... the rope gave and sadly a few people lost their lives as each side of the rope backfired into the people pulling with extreme power. Why am I babbling about tug of war? Because the current state of the world economy is very similar to that world record attempt. The system is stretched in a lot of different directions: demand for resources, unemployment, conflicting stimulus policies chasing the same demand for goods, unsustainable amounts of debt... - Nic Lenoir

Today's TIC data came in showing a surprising and robust inflow of foreign capital into the US in the month of July, with a net inflow of $61.2 billion on expectations of $47.5 billion, and a solid jump from last month's $44.4 billion. On a gross basis, purchases of a total of $74.8 billion in US securities consisted of $30 billion in Treasurys, and $17.3 billion in Agencies, but more surprisingly $13.9 billion in Corporate Bonds and $12.5 billion in Corporate Stocks. The last two categories were outliers consider the prior two months had seen outflows in foreign holdings of both bonds and stocks (a total of $27 billion across the two categories for both months). What may or may not come as much of a surprise is that of the $74.8 billion in total Long-Term investments, pretty much all of it came from capital originating in Japan ($29.7 billion) and the UK ($30.9 billion). Ah, good old UK, which as a covert depot for central bank operations, is now no longer content with accumulating Treasurys at a torrid pace, now holding a total of $374.3 billion (a $12 billion increase M/M), but is also aggressively bidding up bonds and stocks. In July the UK (which itself can barely fund its own QE-prompted deficit funding), also bought $12.4 billion in corporate bonds and $2 billion in corporate stocks.

Only a partisan two-bit hack economist/liberal rag columnist from an Ivy League University with a Nobel Prize could look at the following two charts and conclude that the Japanese Government failed to revive the Japanese economy over the last twenty years because they spent far too little on fiscal stimulus. Japanese government debt as a percentage of GDP was 52% in 1989, prior to their real estate and stock market crash. Today it stands at 200% of GDP. Current budget projections show the debt reaching 250% of GDP by 2015. Meanwhile, Japanese consumers and corporations have been reducing their debt for the last 16 years. The net result has essentially been a 20 year recession. The pundits who never see a crisis on the horizon point to the fact that Japan has not collapsed under the weight of this debt as proof that the U.S. debt level of 90% of GDP has plenty of room to grow without negative repercussions. This is the same reasoning “experts” used in 2005 when they proclaimed that home prices in the U.S. had NEVER fallen on a national basis, so therefore there was no reason to worry about home prices. A basic economic law is that an unsustainable trend will not be sustained. When the 3rd largest economy in the world implodes, the reverberations will be felt across the globe.

• Yen tumbles as Japan FM Noda confirms currency intervention- first time since 2004.
• Singapore authority to intervene second time in a month to bring down the S'pore dollar.
• Yuan climbs to record as gains quicken ahead of US Committee meetings.
• API sees 3.3-million-barrel increase in oil inventory.
• China's steel output cut to continue through 2010: Industry Ministry.
• Fed differ on question of how weak the economic outlook should get before they move to take major steps to boost growth.
• Japanese shares rise as currency intervention drives down Yen; Gold climbs.
• OPEC sees no change to production quota at meeting in October.
• Retail Sales in US increase more than estimated in second monthly rise.