Japanese Micro-Steps Toward The End Of An Era

“Japan’s economy is likely to continue to face a severe situation for the time being, especially with respect to exports,” said Masaaki Shirakawa, the Governor of the Bank of Japan, when he was talking to business executives in Nagoya (Japan Today). He blamed the European debt crisis and the strong yen.

Whatever the causes—Eurozone chaos, dollar devaluation, yuan peg, etc.—the strong yen puts pressure on Japanese exporters to sacrifice profits overseas or lose market share. Consequently, exporters have redoubled their efforts to relocate production to plants outside Japan. Honda and Toyota announced that they would switch production of certain vehicles from plants in Japan to their plants in Alabama for export to South Korea. Honda announced that it would shift production of big motorcycles from Japan to Thailand. The list goes on. Japan Inc. is adjusting to the strong yen.

Not surprisingly, trade deficits are making a regular appearance. The October details were ugly. Exports fell 3.7% from a year earlier, in part due to sluggish IT demand. Exports to China skidded 7.7%. Imports were up 17.9%. It was the fifth month of trade deficits this year (graph), and Export Nation Extraordinaire will likely end up with a trade deficit for 2011. The end of an era.

So, October unemployment jumped to 4.5% from 4.1%. By US standards, it’s still low; birthrates have been declining for decades, and every year, fewer and fewer young people enter the workforce as more and more people retire at the top end. Another ratio that looks outright glorious compared to the jobs nightmare in the US: there were 67 job offers to every 100 job hunters. So unemployment will not be a huge issue.

What will be a huge issue is having these fewer workers service the exploding gross national debt that has reached the astronomical level of 230% of GDP (Greece’s may hit 160% soon). Repaying it is impossible. And at some point, the house of cards will come down, either through massive inflation, devaluation, or selective default. In the interim, the BoJ tries to keep yields near zero to essentially eliminate interest expense as a budget item. A matter of financial survival. The BoJ has no other option. If short-term rates rose from near zero to, say, 3% on this kind of indebtedness, the government would not be able to make interest payments for long. Selective default would be one of the options. A scary thought.

A thought that probably every Japanese adult has had. It’s a fact of life. So, Japanese household spending has been dropping for eight consecutive months, according to the Ministry of Internal Affairs (Japan Today). And the big consumption tax hike that is making its way through the political system isn’t exactly an uplifting thought either.

To counter all this, the BoJ increased its asset buying program by ¥5 trillion to ¥55 trillion ($724 billion). The additional cash will be plowed into Japanese government bonds in an endless strategy of printing money and buying assets to prop up the house of cards. And it’s working: 10-year yields are around 1% despite the dance of downgrades that won’t stop at the current AA- rating. At these yields, practically no one outside Japan wants to buy this crappy debt—95% is internally funded.

The BoJ’s other bets have been REITs and EFTs. Since December 15, 2010, it intervened in the open markets whenever the Nikkei dropped significantly during the morning session. Currently, purchases are capped at ¥1.4 trillion ($18.4 billion). For greater effect, they’re published on the BoJ website. But it has been a losing trade. Despite these purchases that were supposed to prop up the markets, the Nikkei is down 22% from its February high this year (and down 78% from its all-time high in 1989).

“This is not what a central bank should be doing,” said Masaaki Kanno, BoJ’s former chief foreign-exchange dealer. “The program started in an emergency, and it’s been snowballing.”


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