Abenomics Part 3 – Don’t just sit there; pretend to be doing something!

“We all know what to do, we just don’t know how to get re-elected after we have done it” Jean-Claude Juncker, Prime Minister of Luxembourg

As we have discussed, Quantitative  Easing—QE—by central banks does not stimulate the economy by leading banks to boost lending (see Part 1) and does not fight deflation (see Part 2).  This is hardly heresy: the Bank of Japan itself said “quantitative easing … is not effective” in a 2001 journal of monetary and economic studies.  Why doesn’t the Abe government ignore in favor of implementing programs that would more effectively combat Japan’s seemingly endless recession?

To answer, we must first ask what a recession is?  I would define it as a period of economic contraction and dislocation caused by the excesses of prior periods. Extreme expansions are caused by booms—Japan’s include property in the 1980s and internet around 2000—which grow to excess and are followed by busts during which those excesses are worked out.  The working out process is usually painful, like the spike in Silicon Valley unemployment after the internet bubble burst or the” see through”   buildings in the Texas after the oil/S&L bubbles burst.  The fastest way to get through the bubble may be to let it fully and thoroughly burst and then assist the distressed in dealing with the consequences.

The pain associated with a thorough burst, though, is so politically unpopular that admitting you will let it run its course could be political suicide. Instead, they try to combat it with actions like bailing out high profile companies, slashing interest rates, propping up land and equity prices, scapegoating short sellers, fudging accounting standards.

Ultimately these actions seldom accomplish more than delaying the manure’s contact with the ventilator.  Government action could no more fully utilize the fiber optic capacity built a decade ago than the excess railroad capacity built in the 19th century.  America’s Chrysler bailout rescued neither the company nor the industry, which demanded a more comprehensive bailout less than 30 years later. (Although that bailout, popular is several swing states, gave Obama his second term). Japan’s supplemental budgets didn’t produce nominal growth any more than its gimmicks for obscuring non-performing loans increased confidence in the banks.

Governments resort to counterproductive half-measures because facing problems is political suicide.  The main cause of Japan’s endless recession is, in my view, the Plaza Accords.  The value of the yen doubled in a few months, which turned Japan into an insanely expensive country.  An economically appropriate response might have been to take advantage of the cheaper currencies offered by all other countries and boosted immigration and imports to allow companies and individuals to take advantage of suddenly cheaper labor and.  Japanese companies could have concentrated on the high value added areas where they have a competitive advantage—like building cars—while letting factories in—and immigrants from–poorer countries handle the low value added functions.

However, proposing to let suddenly uncompetitive Japanese companies sink or swim and allowing unwashed foreign hordes to invade xenophobic Japan would have been political suicide.  Instead BOJ eased monetary policy, creating a property bubble, much like America’s Fed did after the Internet bubble.  Meanwhile, Japanese deflation began with the importing of massively cheaper foreign goods—like golf equipment and beer—and has continued for two decades.  Deflation appears likely to continue for the foreseeable future.  Mercer Consulting still ranks Tokyo as the most expensive city in the world, followed by Osaka at #3 and Nagoya at #10.  (For reference, London is #25 and New York #33).  Indeed, like an opening act which threatens to cut into the time allocated to the headline performer, deflation and stagnation have intruded upon Japan’s next crisis: the explosion of its demographic time bomb.

The reason that Japan—and now many other governments—turned to Quantitative Easing is not that it is effective, but rather that it creates the illusion that the government is attacking the problem without in fact incurring any of the distress that would be associated with an effective response to past excesses.  Indeed, it is hard to identify any parties who particularly suffer from quantitative easing in the short-term (the only term understood by most politicians). This distraction may help Abe remain in office for longer than the “one night stands” enjoyed by most of his predecessors (Japan has had 21 Prime Ministers since the Heisei era began 24 years ago, including Abe himself for a year in 2006-07), it won’t solve Japan’s problems.

Leave a comment

Filed under Uncategorized

Abenomics Part 2: it’s not just the size that counts

Napoleon Bonaparte decreed that Power = Mass times Velocity.* His emphasis on velocity is critical. While the diminutive Napoleon might have been compensating for personal limitations, his emphasis on velocity is a critical one that advocates of Abenomics have missed.
At the risk of straying too deeply into nerdy economic theory, the argument for “printing money” to create inflation is based upon a simple economic formula first proposed by Irving Fisher in 1911.
PQ = MV
P is average price of goods sold in a year
Q is the amount of goods sold in a year
M is Money Supply
V is Velocity of Money (i.e., the number of times each unit of currency is spent in a year)

When you think about it, the formula is intuitive. The amount of goods times their price is value of economic output; sort of like loaves of bread sold (Q) multiplied by the price per loaf (P). In order to buy them, consumers use the available money (M) multiplied by the number of times each yen is spent (V). If currency is limited, each unit might change hand many times. If it is plentiful, most of it might languish in a wallet, safe or safe deposit box.
From this formula, some economists argue that the quantity of goods (Q) is basically fixed and that velocity (V) shouldn’t change too much. Therefore, increasing the supply of money (M) must boost the price level (P). Essentially, more money chasing the same amount of goods means at the same velocity means that their price should rise. However, as anyone who has ever been pursued knows, it is not just the number of people chasing but how hard they are coming. In other words, the velocity of money is every bit as important as the amount of money.
What is money? This simple question yields a messy answer. Economists use three different measures of money: M1, M2 and M3. M1, the closest to spendable money, consists mainly of cash and Liquid Deposits (roughly equivalent to American checking accounts). M3, a much broader measure, includes M1 plus Time Deposits and Certificates of Deposit.** In normal times, Time Deposits and CDs yield a higher interest rate than Liquid Deposits, so people lock up their savings in Time Deposits/CDs. Only their spending money goes into Liquid Deposits or cash. Therefore economists focus on M1.
However, deflationary recessions are not normal times. For one thing, interest rates fall to nearly zero. For another, banks fail in large numbers. In such circumstances savers won’t lock up their savings for extended periods in Time Deposits at wobbly banks which offer rates that flirt with zero. The Japanese government reinforced this trend by offering greater insurance to Liquid Deposits than Time Deposits. Some people abandon banks, with their fees and default risk, hoarding currency. The result is that money flows out of Time Deposits and CDs into Current Deposits and currency. Meanwhile, there is little incentive to spend. For one thing, facing hard time families try to cut recurring expenses and to squeeze another year out of their capital items (cars, appliances, etc.). For another, deflation encourages potential buyers to wait while prices fall further.
The statistics bear this out. Japan’s Money Supply—M1—has more than doubled since March 1999, but this is in large part due to the shift of which we are speaking. Prices continue to fall and the overall economy continues to stagnate. We aggregate the two largest categories of Liquid Deposits (Current Deposits and Ordinary Deposits) along with Time Deposits and call it total deposits.*** In March 1999 Liquid Deposits accounted for 28% of deposits. By March 2012 they accounted for 54% of deposits. In addition, the amount of currency—bank notes—in circulation rose by 1/3rd. In other words, Japanese households engaged in a massive shift of funds from accounts that are normally characterized by “hands off” savings to accounts normally characterized as money set aside for near term spending. However, this was not due to any intention to spend, but rather due to a lack of rewards and increased risk to long-term savings.
For reference, US M1 has risen by about the same magnitude as in Japan over this period, though US M1 growth was quite measured until the 2008 financial crisis. Interestingly, consumption was robust prior to the financial crisis when M1 growth was muted, and has been muted since then despite robust M1 growth.
In essence, Abenomics might be able to boost M1 due to statistical quirks in how it is measured, but it will boost neither spending nor prices. To the extent that it does boost the “supply” of money that will be offset by a decrease in velocity.
Coming: Part 3 – Don’t just sit there; pretend to be doing something!
*We apologize to you physicists who wasted years of your lives and thousands of dollars learning that mass * velocity = momentum, but power sounds better.
**We plead guilty to oversimplifying many aspects of the economic theory and measurements in favor of simplicity.
***Our calculations exclude a few minor deposit categories, but still cover 95% of bank deposits as of 3/31/2012.

Leave a comment

Filed under Uncategorized

Abenomics: Economic salvation or circle jerk?

Most thriller writers don’t blog about Asian economics, but Bid Only is a Wall Street thriller set in Japan. Therefore, I may be able satisfy many readers interest in Japanese finance establishing that I know something enough to credibly write a thriller with this backdrop. This is the first of a four part series.
The Bank of Japan recently announced plans to buy close to $150 billion in bond per month from January 2014. Believing that this could end deflation and achieve the Bank of Japan’s (BOJ) new 2% inflation target, foreigners pumped nearly $30 billion into Japanese stocks since November, driving the Nikkei 225 up 20%.
The bond buying plan faces several obstacles, the first of which is that achieving BOJ’s objective–printing money–is harder than it seems. Paper money is, after all, just an IOU from the Bank of Japan. I could print my own IOUs from WaltBank and dump them out my window. However, since no merchant would accept such notes in exchange for goods, my notes would simply be blown away by the wind. BOJ has a different problem: since it has credibility—merchants accept BOJ’s note as payment—if BOJ dumped notes out the window everyone would leave their jobs and fight for a place under BOJ’s window.
BOJ therefore chooses to inject money into the economy by buying Japanese government bonds (JGBs). In theory the sellers of those bonds will be banks who will use the sales proceeds to make loans to businesses and individuals. Those borrowers should spend the money on capital improvements, boosting working capital, or for consumption. This should boost the economy.
However, in an economy faced with a seemingly endless deflationary recession, banks don’t follow economic theory. Japanese defaults have ratcheted up in the last few decades but lending margins remain paper thin, so banks simply don’t lend to risky borrowers. Worried more about return of capital rather than return on capital, banks use the proceeds from their sales of bonds to BOJ to simply buy new bonds. The result is a stagnant loan market coupled with a bubble in government bonds.
Don’t take my word for it; look at the numbers. Let’s look at the 13 years from the fiscal year ended March 31, 1999 to the fiscal year ending March 31, 2012. This covers the period before BOJs first quantitative easing (arguably March 2001) which is also the period from the oldest until the most recent years for which the Japanese Bankers Association has aggregate figures). During this period deposits at Japanese banks rose by 128 trillion Japanese yen (i.e., JPY128trn) an increase of 26.3%. Japanese banks are hardly short of cash with which to lend. However, their total lending over that period of time has been a net Decrease of JPY28.8trn (5.9%). (For reference, US banks more than doubled lending during the 13 fiscal years from December 1998 to December 2011). Over that time period Japanese banks changed from lending out 99.7% of deposits (i.e., loan deposit ratio of 99.7%) to lending out 74.3% of their deposits.
From FY 3/2001 until FY 3/2012, in addition to the deposit growth, BOJ boosted its holdings of JGBs by JPY44trn. What did Japanese banks do with the money that BOJ injected? They plowed it right back into government bonds! Over the 13 years we are talking about, the sum total of increased deposits and reduced lending freed up JPY157 trillion. During that time, banks’ holdings of JGB’s rose by JPY135.4trn! In other words, 86.3% of the money generated by new deposits and reduced lending went straight back into government bonds (much of the rest went into municipal and corporate bonds).
Banks have been reducing lending for most the past two decades despite being awash in an ongoing flood of deposits from Japan’s fanatical savers. Thinking that additional injections of funds from BOJ buying will reverse this trend is naïve.
Coming: Part 2: Money – It’s not just the size that counts, but also the velocity

4 Comments

Filed under Uncategorized

“Hurry up and die”? How about hurry up and shape up!

Taro Aso, Japan’s Finance Minister and Deputy Prime Minister (and a former Prime Minister), landed in hot water for suggesting that the elderly must die early to solve its budget problems. At a meeting of the national council on social security reforms Aso said that if he was an elderly hospitalized patient, “I would wake up feeling increasingly bad knowing that [treatment] was all being paid for by the government…The problem won’t be solved unless you let them [i.e., sick elderly] hurry up and die.” And we thought that Romney’s “47%” comments were politically incorrect!
The cost of medical care for the elderly is serious, and many news outlets spun the story by emphasizing Japan’s aging population. In doing so, they miss two larger issues.
Firstly, why is this problem occurring in a nation of highly educated fanatical savers? The problem is their savings are supplemented by negligible investment income because Japanese stocks don’t appreciate and pay niggardly dividends. Even that problem is a symptom of companies that ignore shareholders. Securities analysts, who should direct capital toward firms that use it productively and away from those who squander it, face retaliation if they speak frankly. The government’s role is to preserve the status quo by keeping interest rates low, regardless of the impact on savers. Meanwhile, antiquated property usage restrictions helped drive up a crazy property bubble from which, even after two decades, Japan is still struggling to recover.
Secondly, dysfunctional male/female relations depress Japan’s birthrate. Japan has the oldest marriage age in the developed world, with many women “settling” only after the alarm on their biological clocks starts buzzing. Once married, studies show that less than 60% have sex more than once a month* (although one or both might participate in Japan’s active flesh trade). Couples trying to end loveless marriages face a bizarre maze of antiquated laws that prohibit contested divorce filings and often virtually prohibit visitation by the non-custodial spouse.
My upcoming novel, Bid Only, helps explore Japan’s mass of interconnected contradictions. Although some of the mentions are tangential—Bid only is, after all, a romantic thriller—but better that than an impressive scholarly tomb that rests on your bookshelf unread.
*http://mainichi.jp/english/english/newsselect/news/20121221p2g00m0dm005000c.html

Leave a comment

Filed under Uncategorized

Sudden snow leaves naked lovers calling for help

2014’s Coming of Age day has a humorous, risqué subplot. This is a Japanese holiday during which youth put on traditional kimonos for a ceremony, and then go off on romantic dates. Because a sudden snowfall disrupted their plans, many ducked into “love hotels” (hourly hotels used for quickies) in the afternoon. As evening fell and they prepared to leave, these naked lovers realized that they were unable to dress themselves! Many had to use their smart phones to find nearby kimono shops, asking the shops to make a “house call” (hotel call?) to help them cover themselves!
I know it sounds bizarre, but putting on a kimono is a real adventure. When I have done it, it took about an hour and I, too, required assistance. Sadly for the traditionalist among us, most 21st century Japanese youths have little more experience in donning these garments than their European counterparts have in wearing a suit of knight’s armor.
Love hotel stories are seldom this innocent and humorous, though. Many, if not most, are affiliated with prostitution rings. Some even provide a woman along with the room. Despite this, some Wall Street investment firms have invested in love hotels. In my debut novel, Bid Only, love hotels are both a source of income for the antagonist and the setting for one scene.

http://www.tokyoreporter.com/2013/01/22/jan-14-snowfall-brings-unexpected-windfall-for-kimono-dress-up-services/

Leave a comment

Filed under Uncategorized

Yakuza and tatoos

Yakuza traditionally tatoo their bodies, both to intimidate their enemies and to mark themselves.  John Gilbert uses those tatoos to help identify hit men in “Bid Only”.

Leave a comment

Filed under Uncategorized

Books on the Yakuza

Think that Japan is all auto companies, snazzy electronics and pretty geisha?  Thank again.  Organized crime is a powerful force in Japan, as documented by many books.  Some excellent works include “Tokyo Vice” http://www.japansubculture.com/tokyovice/

“Tokyo Underworld” http://www.stippy.com/book-reviews/tokyo-underworld-the-fast-times-and-hard-life-of-an-american-gangster-in-japan/

and “Yakuza Moon” http://books.google.com/books/about/Yakuza_Moon.html?id=jsSl8NR-XAgC.

Leave a comment

Filed under Uncategorized