Why Japan’s Recession Does Matter

Iron ore falls again on concerns over the strength of China’s economy.

Wall Street was going strong until news of a potential terrorist attack in Germany hit the airwaves. The market promptly retreated.

Japan announcing it’s in recession had all the surprise of a hearing a drunk has fallen off the wagon…again.

The markets didn’t care about Japan’s economic woes. The Australian market rose strongly yesterday on an upbeat economic outlook from the CBA and the RBA. I need to start drinking what those guys do…the hallucinogenic effects must be sensational.

Japan is the land of rising debt levels and yet it continues to muddle through, so why worry? In fact, if Japan can rack up that much debt without imploding, then so can we — right?

private and public debts as % of gdp
Source: ftense.com

People seem to forget that if something can’t go on, then it won’t.

Most ignore that simple fact.

When Shinzo Abe was running for PM in late 2012 — on a platform of print and be damned — this was typical of the commentary at that time (emphasis is mine):

Shinzo Abe, the overwhelming favorite to lead the Liberal Democratic Party to victory, is running on a bold platform of unlimited quantitative easing and more inflation. If this works — and the odds are that it will — Abe will not only cure a great deal of what ails Japan, hell light a path forward for the rest of the developed world.

Its odd that Abes vision has received so little attention, given that until relatively recently there was overwhelming consensus in the West about what needed to be done: unlimited quantitative easing and more inflation. The reasoning is fairly simple. A country in the wake of a big asset bubble needs very low real interest rates in order to stimulate investment.

Moneybox, 30 November 2012

The ‘odds are’ unlimited money printing will cure what ails the world. Seriously, this stupidity passes for informed comment. To follow, it says the cure to an asset bubble is to set interest rates so low that you stimulate investment to create another asset bubble. Pure genius.

With this sort of claptrap passing as serious economic commentary, it’s no wonder the financial world just shrugs and moves on. Fundamentals, common sense and history matter for naught.

The world’s third largest economy just entered its fourth recession in five years, and what’s to blame? Is it too much debt? No. Is it the ageing population not spending enough and drawing too much on the public purse? No.

Then what is it?

According to Japan’s Finance Minister, there’s not enough skilled workers available to implement the Government’s public works projects. Basically, ‘the government needs more people to help it spend money it doesn’t have on projects it probably doesn’t need’.

But the Finance Minister doesn’t stop there. According to his recession-busting strategy, Japanese firms need to loosen the purse strings…raise wages and increase capital spending. Brilliant, spend shareholder money to boost the GDP figures. After the cash is spent and the GDP flatlines again, then what?

You can’t fix a problem unless you acknowledge it. If the Finance Minister’s solutions are indicative of government attitude — it’s not our fault, we’re doing everything we can — then Japan will continue to lurch from recession to recession and eventually into a Greek-style depression.

But where are the adults in this conversation?

In July 2015 the IMF released a report that estimated Japan’s economy would grow by 0.8%.
Wrong. It shrunk by 0.8%. The report also projected growth in 2016 to rise to 1.2%. Wrong. The IMF habitually forecast the next year higher and later provided a downward revision.

The IMF report did get one thing right. It correctly stated that without corrective activity Japan’s public debt would increase to 250% of GDP in five years’ time. Because if you keep spending more than you earn, debt piles up.

What’s the IMF’s solution to stop Japan’s descent into depression?

First and foremost, the Bank of Japan must be prepared for additional monetary easing (more money printing) and to tell the markets of its absolute determination to drive inflation.

If only it was that easy. All the world’s economic problems could be solved overnight with a printing press and a loudspeaker.

To be fair, the IMF also pointed out structural reforms were also needed in the agricultural sector. Making this tightly held, politically influential sector more competitive is, in theory, a step in the right direction. However, in practice, this is like telling the union movement to butt out of the Labor Party. It ain’t going to happen.

In fact, the more protected an industry is, the less productive it becomes. Abe’s third arrow of structural reform will be aimed at weak targets that offer little resistance and deliver little productivity gains.

What will happen in Japan is more QE and more asset buying. How do I know this? Because the Finance Minister denied they would do it.

Watch for the next round in the currency war to begin. Japan will double up on its effort to improve their export competitiveness.

If Japan’s woes don’t concern the markets, then why should we take notice? Because we are all in the together. Japan makes its exports cheaper, but who do they sell them too? The US consumer is not the obvious target they once were.

Fortune Magazine 8 September 2015:

Macy’s plans to close between 35 and 40 of its namesake department stores early next year, a move that comes as the retailer’s sales growth has stalled and many shoppers have stopped visiting the malls that are home to its stores.

Fortune Magazine 11 November 2015

Earlier this year, shortly after reporting poor results, Macy’s announced it would close up to 40 stores. On Wednesday, the retailer said it expected more closings beyond the current round, which are slated to happen by the end of January.

A greater uptake of online shopping is hurting retailers. Technology is deflationary.

Compounding the retailer’s challenges even further, tourism in the US is way down, hurting its stores in Manhattan, San Francisco, and Miami, its highest grossing locations.

The stronger US dollar — a consequence of the currency war — is also hurting US retailers. Another deflationary influence. But it is not just Macy’s that is feeling the pinch. Upmarket retailer Nordstrom is also having trouble generating sales.

According to CNN on 13 November 2015:

Nordstrom warned its sales deteriorated late in the summer and things are looking dicey for the holiday season.

Nordstrom’s weakness was widespread, but the company struggled to pinpoint why customer traffic decelerated.

“We’ve seen it across geography. We’ve seen it whether it’s in-store or online. We’ve seen it by category,” Michael Koppel, Nordstrom’s chief financial officer, said during a conference call.

To prove the US retail slowdown is across board, here’s a headline from the Wall Street Journal on 14 October 2015:Wal-Mart Surprises Market With Dim Outlook’

Japan will do everything in its power to drop the value of the yen to boost exports. But the cheaper Japanese products may just sit on the shelves as consumer spending habits change. And do you think China is going to sit idly by and let Japan have the inside running? Not likely.

The world is going to be flooded with cheap product from a multitude of offshore manufacturers looking to make a buck to repay their bank loans.

The currency war is really a battle within the greater war against deflation. The crazy part of this battle is that the more it intensifies, the greater the deflationary forces become.

But don’t expect the mainstream to join these dots. They’ll continue fighting like the Monty Python Black Knight.


Vern Gowdie
For Markets and Money

Vern Gowdie has been involved in financial planning since 1986. In 1999, Personal Investor magazine ranked Vern as one of Australia’s Top 50 financial planners. His previous firm, Gowdie Financial Planning was recognized in 2004, 2005, 2006 & 2007, by Independent Financial Adviser (IFA) magazine as one of the top five financial planning firms in Australia. He has been writing his 'Big Picture' column for regional newspapers since 2005 and has been a commentator on financial matters for Prime Radio talkback. His contrarian views often place him at odds with the financial planning profession. Vern is is Founder and Chairman of the Gowdie Family Wealth advisory service, a monthly newsletter with a clear aim: to help you build and protect wealth for future generations of your family. He is also editor of The Gowdie Letter, which aims to help you protect and grow your wealth during the great credit contraction. To have Vern’s enlightening market critique and commentary delivered straight to your inbox, take out a free subscription to Markets and Money here. Official websites and financial eletters Vern writes for:

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