In May of 2013 I wrote:
“While Japan has entered into an unprecedented stimulus program (on a relative basis twice as large as the U.S. on an economy 1/3 the size) there is no guarantee that such a program will result in the desired effect of pulling the Japanese economy out of its 30-year deflationary cycle. The problems that face Japan are similar to what we are currently witnessing in the U.S.:
- A decline in savings rates to extremely low levels that depletes productive investments
- An aging demographic that is top heavy and drawing on social benefit schemes at an advancing rate.
- A heavily indebted economy with debt/GDP ratios above 100%.
- A decline in exports due to a weak global economic environment.
- Slowing domestic economic growth rates.
- An underemployed younger demographic.
- An inelastic supply-demand curve
- Weak industrial production
- Dependence on productivity increases to offset reduced employment
The unanswered question remains as to whether, or not, monetary policy can generate economic recovery. The world’s central banks have ‘bet it all’ that it will indeed work. The problem, as is always the case is such monetary experiments, remains the unintended consequences.”
Of course, as I anticipated then, the experiment failed.
Not only did their massive interventions fail to spark the anticipated inflationary push but the economy plunged in the second quarter of this year at annualized pace of 7.1%. The reality is that the bond buying schemes used to inflate asset prices have not been translated into actual economic growth.
The Infallible Keyensian Argument
The worlds central banks have now fully engaged in what I call the “Infallible Keynesian Argument.” Which is simply stated as:
“The central banks should inject money into the financial system in order to spark economic growth. If it works, the theory was correct. If it fails, it is only because the central banks simply needed to do more.”
Japan has now effectively demonstrated a complete adoption of the “infallible argument” by engaging in a massive expansion of its already failed QE program. Via Bloomberg:
“Today’s decision to expand Japan’s monetary stimulus may be regarded as shock treatment in the central bank’s effort to affect confidence levels. Bank of Japan Governor Haruhiko Kuroda’s remedy to reflate the world’s third-largest economy through influencing expectations saw the yen sliding and stocks climbing.
Kuroda led a divided board in Tokyo in a surprise decision to expand unprecedented monetary stimulus. Bank officials hadn’t provided any hints in recent weeks that additional easing was on the cards to help reach the BOJ’s inflation goal.”
Of course, it is important to remember that just one-month after the first “QE shock” last year, the Nikkei crashed, the economy failed to rebound and inflation remains suppressed. This time will end no differently.
Expecting A Different Outcome
The issue is that Japan refuses to recognize that they have a debt problem. Instead they continue to implement the same failed strategies in hopes of eventually getting a different result.
However, despite the Bank of Japan’s current “QE” program now absorbing close to 100% of all newly issued government bonds, a complete monetization of the Japanese economy, the only real success will be the further creation of excess bank reserves and a furthering of the current carry trade. However, there are no signs of private demand for credit so far which will continue to undermine the BoJ’s efforts.
With an aging demographic that are massively dependent upon the government’s pension funds, the BoJ’s attempt to increase inflationary pressures will have a negative feedback loop. The more successful that the BoJ is in forcing prices up, the less that the country will be able to consume and invest. The economy will get weaker, not stronger, and the current advantages that are enjoyed through cheaper exports are paid for by the rest of the nation.
Every country in the world wants to inflate themselves out of their debt problem so that they do not have to “deal” with their debt problem. Of course, as Peter Tenebrarum recently wrote:
“If one could indeed debase oneself to prosperity, it would long ago have been demonstrated by someone.”
The lynch pin to Japan, like the U.S., remains interest rates. If interest rates rise it is effectively “game over” as borrowing costs surge, deficits balloon, housing falls, revenues weaken and consumer demand wanes. It is the worst thing that can happen to an economy that is currently remaining on life support.
Therefore, Japan remains trapped in an on-going “liquidity trap” where maintaining ultra-low interest rates is the key to sustaining an economic pulse. The unintended consequence of such actions, as we are witnessing in the U.S., is the ongoing battle with deflationary pressures. The lower interest rates go – the less economic return that can be generated. An ultra-low interest rate environment, contrary to mainstream thought, has a negative impact on making productive investments and risk begins to outweigh the potential return.
The negative growth rate announced in the latest US consumer spending report should be a warning sign. While the monetary policies have inflated asset prices, they have not been kind for the real economy and the people who depend on it for survival.
Should we have an expectation that the same monetary policies employed by Japan a second time will have a different outcome than the first? More importantly, this has now become a global game of “hot potato” as one central bank ends a “liquidity scheme”another picks it up. The problem is that despite the inflation of asset prices, and suppression of interest rates, on a global scale there is scant evidence that the massive infusions are doing anything other that fueling the next asset bubbles in real estate and financial markets.
Central Banks globally are currently betting on a “one trick pony.” Currently, there is little real evidence of success but apparently it is only because “they have not done enough.”
Images: Flickr (licence attribution)
About The Author
Lance Roberts – Host of StreetTalk Live
After having been in the investing world for more than 25 years from private banking and investment management to private and venture capital; Lance has pretty much “been there and done that” at one point or another. His common sense approach has appealed to audiences for over a decade and continues to grow each and every week.
Lance is also the Chief Editor of the X-Report, a weekly subscriber based-newsletter that is distributed nationwide. The newsletter covers economic, political and market topics as they relate to the management portfolios. A daily financial blog, audio and video’s also keep members informed of the day’s events and how it impacts your money.
Lance’s investment strategies and knowledge have been featured on Fox 26, CNBC, Fox Business News and Fox News. He has been quoted by a litany of publications from the Wall Street Journal, Reuters, The Washington Post all the way to TheStreet.com as well as on several of the nation’s biggest financial blogs such as the Pragmatic Capitalist, Zero Hedge and Seeking Alpha.