It’s over to you today, Masaaki Shirsakawa! The Governor of the Bank of Japan (BoJ) has a tough act to follow. Ben Bernanke, his US counterpart, doubled-down on his ‘reflate the housing bubble’ policy last week with open-ended bond buying/money printing and low rates until 2015. The Yen trades near its all-time high against the US dollar. Japans exports are slowing. What will the BoJ do in the currency war?
If anyone can match the Fed for long-term ineffectiveness and commitment to futility, it’s the Bank of Japan. They’ve been doing the same thing with no success for over twenty years! But before we elaborate on that point, we’d like to extend an invitation for you to join us in Sydney at next month’s Gold Symposium to discuss this matter. One of the keynote speakers is Currency Wars author Jim Rickards.
You may recall that Jim spoke exclusively to a small group of Markets and Money readers last month while he was in Sydney at our first live Strategy Session. The Strategy Sessions are interviews and in-depth discussions of specific issues that are available only if you subscribe to one of Port Phillip Publishing’s newsletters. Rickards spoke about his book, the Aussie dollar, and how the gold price could theoretically go to $44,552 (an extreme scenario where each the broad money supply in the US, Europe, and China is fully backed by gold).
Jim will probably be talking a lot more about gold at the Gold Symposium, but that’s just a guess. Markets and Money readers are eligible for the early bird discount price of $199. You’ll see Rickards and many more speakers, including our own Dr Alex Cowie. Alex will run a special session on China and gold and will be talking about gold stocks. And of course, yours truly will be discoursing on something important and interesting too.
You can sign for the Gold Symposium today. If you sign up before September 28th, you’ll get the early bird price, so don’t tarry. And if you do register to attend today, make sure to indicate you heard about the show from Markets and Money on page one of the registration process. See you there!
Now, back to the markets. Will the Bank of Japan be buying gold or the Australian dollar? We’ll find out in the next day or so, after the Bank finishes its own two-day strategy session in Tokyo. But if history is any guide, you’ll be disappointed if you’re expecting fireworks. The Bank of Japan has tried to pump up asset prices and consumer confidence with low rates for two decades now. It’s been a dismal failure.
You can see that overnight interest rates have been low in Japan ever since the stock market peaked. The cost of borrowing couldn’t get any lower unless you gave the money away for free. But low rates and asset purchases haven’t revived Japan’s economy or its stock market. Bernanke has fully embraced a strategy of failure.
Why would you pursue a policy you know doesn’t work? Well, channelling Bill Clinton, it depends on what your definition of ‘work’ is. If ‘work’ means preventing a complete collapse in assets prices and a contraction in the monetary base, while enabling the government to run big deficits, then maybe the strategy makes sense.
It doesn’t make sense if you actually want to see the economy recover someday. Japan has racked up a public debt-to-GDP ratio of 200% trying to replace private sector demand with government spending. The only reason it can run a debt-to-GDP ratio that large without generating a currency crisis is that Japan’s debt is almost entirely financed by Japanese savers.
Japanese savers were so burnt by the collapsing stock and real estate bubbles that they’ll settle for losing a fixed amount of money to inflation each year instead of losing everything in a collapsing asset bubble. Nothing seems to revive their animal spirits.
Judging by the Japanese precedent, Bernanke’s best bet is to sedate the public with free money. It’s really a kind of psychological warfare to convince people that everything is okay, even as they’re getting poorer in real terms. This is why he emphasises communication so much. He recognises how important it is to sustain belief in the monetary system, even when evidence of its failure is everywhere.
The trouble is, when you become a chronic borrower, you lose control over your own future. This is true for individuals. It’s true for countries. In fact, some people in China are hoping to exploit this fact and punish Japan for purchasing the disputed Senkaku islands.
Jin Baisong, a deputy director at the Chinese Academy of International Trade and Economic Cooperation, has written an article urging China to impose sanctions on Japan. He says China can exercises the ‘security exceptions’ clause under World Trade Organisation rules that allow it to take action to protect its security interests.
Jin reckons Japan benefits more from Chinese trade than China. But his real insight is that Japan’s huge public debt is a self-built Trojan horse, in a strategic sense. He explains how the Chinese can exercise leverage using the Japanese bond market (emphasis added is ours):
‘According to the Japanese Ministry of Finance and the Bank of Japan, China held short-term and long-term Japanese government bonds worth 18 trillion yen ($230 billion) by the end of 2011, an increase of 71 percent year-on-year. China became the largest creditor of Japan in 2010. Given these facts, Japan should reconsider its financial health. In other words, with Japan’s national debt at stake, the proverbial straw that can save the Japanese economy seems to be in the hands of China. And China can use it to find ways to impose sanctions on Japan in the most effective manner.’
There’s about $345 billion in trade between China and Japan, according to the Wall Street Journal. Given what’s at stake you wouldn’t think either side is eager to escalate a minor territorial conflict into a major economic one. But there is probably a lot more than economics involved here.
For example, yesterday China marked ‘National Humiliation Day’. It’s the anniversary of the beginning of Japan’s occupation of mainland China in 1931. There is a lot of historical bad blood between the two countries that not even globalisation can wipe out. And as we speculated earlier this week, the island dispute may serve the interests of certain parties in China’s political succession who want to whip up national security issues to preserve power and influence. It wouldn’t be the first time this tactic was employed.
It’s not like China doesn’t have problems of its own. Greg Canavan has argued that the Chinese growth model as we know it is finished. He sat down with Money Morning editor Kris Sayce to update his argument in light of recent events in the Aussie mining industry. Look for that interview later this week. In the meantime, keep in mind this quote from the World Bank’s ‘China 2030‘ report:
‘The reforms that launched China on its current growth trajectory were inspired by Deng Xiaoping who played an important role in building consensus for a fundamental shift in the country’s strategy. After more than 30 years of rapid growth, China has reached another turning point in its development path when a second strategic, and no less fundamental, shift is called for.’
But local governments plan to spend 36 trillion Yuan over the next five years on infrastructure and public housing, according to this snippet from China’s Economic Information Daily. That’s not a fundamental shift. That’s also a doubling-down on fixed asset investment financed with debt. That’s the old model.
The old model fits nicely with the conventional view that the resource boom isn’t over, it’s just older. This view, articulated by the Reserve Bank of Australia, is that there are three phases to a commodity boom: a rise in commodity prices, a rise in investment to take advantage of those prices, and then a rise in production as investment comes on stream and prices ‘moderate’. It’s a neat theory.
The trouble is we don’t live in a theoretical world. We live in a human world. And humans being fight over stupid things all the time, especially when bubbles burst and bankers fail. Entertain the idea of ‘moderation’, but prepare for the fighting.
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From the Archives…
Be Very, Very Scared
14-09-2012 – Greg Canavan
How QE Favours the Rich
13-09-2012 – Bill Bonner
To the Barricades!
12-09-2012 – Dan Denning
The Power of Pork
11-09-2012 – Dan Denning
Waiting on Beijing
10-09-2012 – Dan Denning