Economics

The Great Wave

Rather than pretending to a level of insight into the scale of Japan’s problems which neither we nor anyone else truly possesses at this stage of the disaster, we think it might be worthwhile instead to run through some general considerations of what ramifications might be felt in its aftermath.

Before we do, however, we cannot abstain from expressing our utter contempt for the many idiots who have already begun parroting the standard Keynesian nonsense that this calamity will ultimately ‘prove positive for GDP ’, or that the rebuilding efforts can only redound to the nation’s well-being to the extent that they shake it out of its ongoing ’deflation’.

As is their wont, such imbecile Cargo Culters are once again making a fetish of a coarse-grained statistic which is supposed — however imperfectly — to offer a rough measure of material progress being made in the real economy and not the converse, leading them to lose all focus on what is actually happening to people’s living standards and wealth accumulation.

Japan has been stricken with a huge loss of productive capital — as well as an appalling toll of human suffering — and this cannot do anything other than to leave the nation discernibly poorer and, by extension, to curtail its ability to make people across the world better off than they otherwise would be by offering them valuable goods and services as part of that beneficent mutual enrichment which is the international division of labour, conducted under conditions of free(ish) exchange.

Contrary to popular belief, the Japanese have not, in fact, been trapped in a deflationary slough of stagnation these past two decades as both the real and nominal supply of money have risen throughout his period (with the exception of the worst months of the GFC itself), while real per capita national income has also increased modestly, especially on a PPP, or TWI-adjusted basis.  Granted, the consumer price basket has trended lower at a rate of less than 1% a year, but this is something which is presumably no more than a reflection of ongoing productivity gains — ones delivered, to boot, in a country formerly marvelled at for the extreme levels of its domestic pricing.

But, even were we to subscribe to this myth of secular slump, the idea that to eradicate a large quantum of people’s possessions or to evaporate a sizeable fraction of their nest-eggs would be to contribute to their prosperity is to reckon that in futilely striving to heft his rock up the hill for all eternity, Sisyphus was the most tireless ‘engine of growth’ for Hades at large.

If you go to the trouble of cooking yourself a dinner, only for the dog to snatch it from the sill where you placed it to cool, do you congratulate yourself on your own good fortune as you troop back to the larder to begin again? If a sudden hailstorm strips bare the groaning ears of your wheat crop the day before you were due to harvest it, do you cheerily go about preparing the field for replanting, content in the knowledge that your doubled labour is being duly recorded in the plus column by a mindless government data-gatherer?

After all, if the awful spectacle of vast swathes of land littered with shattered buildings and crumpled vehicles — or the concern that they suffer the invisible hazards of radioactive contamination — offers such grand opportunities for advancement, why stop there?

Why wait for the vagaries of the climate, or the tortured creaking of continental plates to bring about such a ’stimulus’ to growth? Why not declare war on ourselves and unleash our titanic arsenals of destruction on our own towns and cities, and rain down hellfire upon our own farms and gardens, razing the first to the ground and sowing the last with salt, until we make a self-inflicted Carthage of them, one in whose midst we can hope to become rapidly richer than our neighbours as, shivering and starving, we pick our way among the debris of our former civilisation to the nearest construction site?

This is all such arrant nonsense that you should banish from your consideration, henceforth and forever, all of the jejune scribblings of the fool whom you once catch propounding it!

But enough of this! The real crux of the matter is to look at the two sides of Japan, Inc. — both as a user (and end-consumer) of certain goods and as a provider of often highly-valued and not easily replicated material inputs to the world economy in exchange.

All else being equal, the country will be consuming some goods (e.g., lumber, steel, copper wire, concrete, fossil fuel) far more directly in the near future and, moreover, consuming them with little onward production of value from their use.

The first order effect of this would be expected to push up preferentially the prices of both the materials they will be absorbing and those whose production by them is temporarily being reduced.

Conversely, the consumption patterns of the ordinary Japanese will also suffer a compositional shift away from the enjoyment of certain goods and services and, ceteris paribus, the prices of these should be less well supported as a consequence.

Where they no longer supply goods to the market — initially being completely unable to do so., perhaps, and, later, devoting selectively less resources to that production as they first tackle the problems of rebuilding — there is certainly scope for their competitors to prosper, but also significant dangers that the partial or total absence of such goods will disrupt production in factories and fab plants elsewhere, too. [Incidentally, the possible fall in the external surplus this comprises is one offset for the fabled yen ‘repatriation’ flows which the market so fears]

In short, where Japan’s goods are competing for sales, others may benefit at her expense: where they are complementary to them, they will equally share in her ruin. In the counter-weighting of these two factors will be decided the first question of whether output suffers beyond her shores and of what impetus is given to what prices.

By confounding entrepreneurial planning, dislocating production schedules, hampering timely onward delivery, etc., the damage could be widespread and should certainly belie Monday’s initial market insouciance. Given that profitable production is the only true source of sustainable consumption and that business-to-business spending is normally a good multiple of what is captured in the blessed GDP numbers, the earthquake-induced fall in Japanese incomes could soon be reflected elsewhere, too.

Where business planning (and the structure of financial exposures which embody this) has been too casual in its concern for such upsets  (however unforeseeable the particulars of this one were), such frictions can rapidly mount to the point where they strip the drive-train of all further functionality and the firm finds itself staring failure in the face.

In this context, we again must draw attention to the alarming upsurge in pestilential credit practices — such as cov-lite, loans, PIK notes, PE dividend-stripping, and buoyant junk financing in general — which so exacerbated the last bust and which have been allowed to re-infect the economic corpus with the active cheer-leading of its central banks, especially the one housed in the Mariner Eccles building.

Furthermore, financial markets have entered this crisis having only grudgingly tempered their inordinate, Fed-fostered levels of bullishness (that, as a result of the Arab unrest) and with leverage, carry–trades, and crowding therefore all notably elevated.

A narrow replay of the kind of crash which followed the San Francisco earthquake and fire of 1907 are perhaps not to be looked for in the absence of a hard money kernel to the pyramid of credit, but that is not to say that ‘contagion’ and the forced liquidation concomitant with it cannot course through other financial channels instead, especially since people are all too aware of the continued fragility of the associated plumbing, even here, on the third anniversary of the Bear, Stearns bail out.

One obvious fracture plane could be the finances of Japan itself, a legacy of two decades of failed New Deals whose eventual unravelling has been exciting the attention of the bears for some good while since. The usual defence is that Japan ‘owes much of the debt to itself’ – a macro-accounting identity which an Austrian is willing to concede while questioning its practical validity.

That some elements of Japanese society have debts greatly in excess of assets (principally, the state) while others (mainly in the private sector) are in the opposite condition is only a comfort inasmuch as it reduces the nation’s exposure to the vicissitudes of the forex market or to the vagaries of offshore investor sentiment.

Thus, while it may provide a convenient smokescreen under the cover of which today’s hard-won savings are funnelled to Leviathan, there to plug the holes left by the squandering of yesterday’s savings, as well as to disburse the doles from which a good percentage of tomorrow’s savings are, in turn, generated, this quadrillion yen round-robin cannot permanently disguise the chronic nature and mind-stretching scale of the capital consumption it entails.

The circling financial vultures are therefore looking forward to the moment when domestic Japanese investment is no more sufficient to absorb all the government’s issues, (without perhaps contemplating the drain on the other improvidents when the giant, state-owned — or state-cajoled — institutions sell their USTs and kangaroo bonds, and realise their Nasdaq holdings and Eurobank CoCos in the effort to plug this gap).

What they now anticipate is that the costs likely to arise in the course of rebuilding the nation cannot fail to have advanced the date of that long-awaited morrow when the piper must be paid and JGB yields start to soar in consequence (even though, were we consistent, the Keynesian theory of fruitful holocaust would suggest ‘growth’ could, meanwhile, repair the finances painlessly).

In this, they may even be right, yet their positioning may well not survive to see the great denouement, for the route to a complete breakdown in the Japanese fiscal position surely lies through the Nihonbashi and the unbridled monetization powers of the BOJ.

Indeed, the additional threat posed to the economy — not just of Japan, but to those of all of its foreign trading partners — is not so much that the government runs out of cash, but that the whole country comes to drown in the stuff.

Indeed, while recognising the short-term, emergency need to reassure people that they will continue to have access to a medium of exchange and a functioning payments system, it is more than a little worrisome that the Bank has doubled its long-term QE programme, citing a desire to ’pre-empt a deterioration in business sentiment… from adversely affecting economic activity’ and to ‘…make contributions…’ in order to ‘…overcome deflation…’

As we wrote of a New Zealand whose own affliction has been swiftly forgotten in this larger tragedy, no good can come of a policy which can only serve to add to the confusion and bewilderment already occasioned by the violence of the tectonic shift in trying to suppress — by means of a crude resort to the printing press — the all-too evident fact that Japan is less well endowed with capital than it was and thus, that interest rates should naturally rise to reflect this inescapable verity.

It is not Yen that Japan now finds itself short of, but potable water, medical supplies, bridging materials, constructional steel, and electric power. The BOJ cannot help deliver these more readily or more efficiently by debauching the currency via its attempt to divorce financial asset prices from the diminished earning potential they incorporate.

Similarly perilous is the incitement this will give to the pump-primers elsewhere in maintaining — or even extending — their own easing programmes. Nor will they be consistent in this for, if they conveniently ignore the rise in food and energy prices, they will just as conveniently point to any liquidation-induced falls in these groupings to confirm the accuracy of their interpretation. On top of this, the many extant doves will be only too happy to protract their tenure as supposed saviours of the universe by enacting extra easing measures should Japan’s woes conspire to slow the upward momentum in the local recovery

Do not write-off QE-III just yet.


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