Japan rescinds war on deflation
by Rebecca Wilder
At least that is the way I read today’s monetary policy release. According to the statement released today: “The Bank of Japan will encourage the uncollateralized overnight call rate to remain at around 0.1 percent.” However, the statement curiously omits the following from item 6. of the previous release:
The Policy Board has concluded that it is appropriate to further disseminate the Bank’s thinking on price stability, by stating more clearly that the Policy Board does not tolerate a year-on-year rate of change in the CPI equal to or below 0 percent and that the midpoints of most Policy Board members’ “understanding” are around 1 percent.
I don’t know why the Bank of Japan would rescind their commitment to 0 percent, when the median inflation projection is negative through 2011, although improved from its latest forecast in June 2009 (at the end of the January 2010 policy statement). That’s bad – rising real debt, further hits to consumer spending, the works. Admittedly, there’s debate over the actual benefit of quantitative easing and zero-interest rate policy (see this paper at the FRSB).
But another policy-relevant bit of news hit the wire today: S&P put Japan’s credit rating on negative watch. From the NY Times:
“The outlook change reflects our view that the Japanese government’s diminishing economic policy flexibility may lead to a downgrade unless measures can be taken to stem fiscal and deflationary pressures,” S.&P. said. “The policies of the new Democratic Party of Japan government point to a slower pace of fiscal consolidation than we had previously expected.” Prime Minister Yukio Hatoyama has some lofty spending plans in its budget, funded by an expected 44.3 tn yen bond issuance.
Diminishing policy flexibility? Given the central bank’s propensity to move away from the ZIRP, and the government debt running stock at 183% of GDP (and rising), I’d say that diminishing policy flexibility is a euphemism.
Notice how Japan’s government debt rose while the nonfinancial sector’s obligations fell – that’s the deleveraging story.
Japan is not “insolvent”, at least that is what the external debt metrics say. But the only real policy flexibility is held by the central bank. And the Bank of Japan, ostensibly at least, doesn’t seem to be providing adequate liquidity.
If left unchecked, this could happen to the U.S.: policy mistakes. Raising taxes and hiking rates too early can turn into persistent economic problems.
Rebecca Wilder
Rebecca,
How much of that rising line of red ink is from Japanese Keynesian stimulus programs?
My take away from Japan’s lost decade is that Keynesian stimulus programs don’t work and that the central government can’t manage the economy. I think if Japan had opened their economy in spirit and law and kept taxes down they would have recovered.
I think you’ve misunderstood the BOJ’s statement. The BOJ did not rescind anything. It clarified its previously issued “Understanding of Medium- to Long-Term Price Stability” to the effect that it would not tolerate a negative YoY reading on the CPI. In other words, it clarified that it does not consider deflation to constitute price stability. Previously, it defined price stability as a YoY CPI inflation rate of up to (if I recall correctly) +2%. Now it has clarified that it meant 0-2%.
Japan carries one of the lowest tax burdens of the OECD countries, lower than China’s and ours. However, it is a regressive tax system so the folks who would be highest marginal spenders have lots of their incomes sucked up in a VAT. Japan may be a classic example of Keynes’s paradox of thrift as Japan’s wealthy savers are increasingly sitting on money (hence low velocity) and enjoying the very secure return that deflation brings to a creditor. Businesses and consumer in this situation want to avoid debt since burden of the principle increases as currence appreciates and becomes more scarce. Also, given the terrible U.S. economic record over the last ten years, perhaps ultra low taxes are not the key to prosperity.
http://www.usatoday.com/money/perfi/taxes/2009-11-25-oecd25_ST_N.htm
It’s always pointed out that most Japanese debt is to Japanese holders. Quite a bit of US debt is held outside the US. How important this is I leave to others to assess.
So why can’t anyone connect the dots? Japan clearly has and has had ample private sector savings. Japan has much less foreign owned debt. Japan has a manufacturing sector. Japan has had a trade surplus. All of these thing are what mainstream economists say the US needs to do. What good has it done Japan? Why will they do anything for the US?
When will we stop allowing the mainstream economists (who are wrong time after time) to define all economic dialog?
Tax your debtholders to pay them their coupon! LOL. Japan age and demographics stink. Huge issues coming for them.
Japan could always increase their taxes on their workers and retired who are also the bond holders. Unfortuantely, that would not take care of their problem. Tax the workers who receive the coupons make sense to you? US planners would rather keep hoping “others” will keep financing us. That game too seems likely to end as we talk about health care and other entitlement expansion. Too bad these same planners will probably try to tax us before they figure out less taxes and targeted tax holidays aimed at specific debt laden consumers would be a much better idea. Note to self: If the Governement gives me tax break, but tells me I can only use it to pay off certain kinds of debt TAKE IT!!
Demographics, my man. If all your bonds are owned by an aging and not growing population you have a major problem. Right? We (USA) have better demographics but probably just as dumb politicians.
Japan does not have significant foreign debt but the US debt to foreigners is denominated in dollars, so it is not really foreign debt.
Historically, the overwhelming problem with countries foreign debt has always been that it is not denominated in their domestic currency. If government debt is denominated in the domestic currency they can always inflate their way out of it but not so if it is in another currency.
This was the problem for Iceland and now Greece. The Greek situation is a new one, the debt is in Euros, their domestic currency, but Greece does not control the Euro.
I look at the big difference between Japan and the US is that Japan had it’s two bubbles — tech and real estate — concurrently while the US had its two bubbles sequentially.
Cantab,
Don’t misrepresent Keynes. He did not advocate central planning. In fact, he was trying to save capitalism. He proposed using gov’t spending to correct for insufficient aggregate demand resulting in mass unemployment and a deflationary death spiral. It was a formula for saving capitalism from itself.
And economics has evolved since Keynes. Just about everyone now agrees that monetary policy is a superior tool for dealing with recessions and preventing depressions, but in Keynes’ time they where chained to the gold standard. Inflationary monetary policy to short circuit the Fisher death spiral was basically impossible.
Today the problem is that central banks are loathe to give-up their hard one credibility for keeping inflation below a high water mark, and they don’t have much experience keeping it above a low water mark – it just hasn’t been an issue for 80 years or so.
It was the Fed – despite the AIG debacle – who saved us from Great Depression 2.0 this time around. And yes, they hand a hand in creating the conditions the led to the crisis in the first place, but that doesn’t change the fact that they managed to prevent the death spiral from taking hold.
For my part, when I’m starring the big bad bear in the face, I’d rather let’em have it with both barrels and worry about which was actually the kill shot later – once he’s dead.
In my not entirely educated way, this is how see Japan’s problem. The Plaza Accord agreement caused the dollar to go down significantly, and the Yen to rise too much. Japanese exports waned but domestic consumption rose and asset values decoupled from incomes. Simply put, the dynamic of earning, saving, and then investing those savings, as a formula to keep asset values tied to incomes was overwhelmed by the totality of investment capital moving through the system. Some of this excess capital came as the result of foreign inflows as the Yen strengthened against the dollar. But the important consideration is the totality of investment in relation to upward mobility rates as economies extend out globally. An easy way to understand this, for me anyway, is to think of the economy as having used up the necessary number of borrowers, but I suppose ‘liquidity trap’ better explains that banks get stuck paying interest on money they can’t lend, so whatever, if we must always look at everything from the banker’s pov, whatever.
Economists seem reluctant to discuss the upward mobility here. I remember when Globalization came to be kicked around there was some talk about an emerging middle-class in the developing nations but that subject becomes a multi-dimensional Keynesian mind twist that I suppose was swept under the EMH rug, or perhaps I have seen the explanation in some algebraic form and I just didn’t understand it, I admittedly can make no sense of algebra.
I do understand though that I was able to foresee the housing collapse. So it worries me some that countless economists who failed to foresee something that obvious, expect me to believe that they have this multiple-economy-upward-mobility thing under control.
Japan’s Keynesian programs? Where? Central Planning? Eh, you mean like the capitalists do? Japan’s debt is from the collapse in their economy idiots.
Canteb represents the ignorance of the people. He will cheer when the capitalists dissolve America and create a international plutocracy(another name for government by the merchant).
Patrick,
Who was talking about central planning. I was talking about the central government which is not the same thing as central planning.
I see Japan’s lost decade as being lost to Keynesian economics. They had one big infrastructure project after another and it failed produce a rapid recovery in Japan. People like Krugman are hanging noodles on our ears when they claim that Japan did not do enough. If he was honest he would acknowledge that they their attempt at Keynesian stimulus were a failure.
It would be interesting to better understand how the US liquidity trap will affect the Japan’s liquidity trap. Us consumers will most certainly buy fewer Japanese products on credit. I wonder if two liquidity traps can produce offspring?
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And who would have thought that Cantab might someday be accused of being a radical lefty. Go figure, some charts are more difficult to understand than others I suppose.
Demographics? That’s not a particularly convincing answer.
The logical conclusion when mainstream economic prescriptions fail to deliver should be that the mainstream economics are wrong. I mean, when every outcome needs an asterisk next to it in order for the textbook explanation to apply, why don’t we throw out the textbook?
***How much of that rising line of red ink is from Japanese Keynesian stimulus programs? *** Cantab
Pretty much all of it I believe.
***My take away from Japan’s lost decade is that Keynesian stimulus programs don’t work and that the central government can’t manage the economy***
Two minor corrections — it’s “lost decades” two of them and “didn’t work” not “don’t work” I don’t think anybody would disagree that repeated Keynesian stimulation hasn’t worked in Japan. That’s why Krugman — who seems to understand the Japan thing as well as anyone –wanted a big stimulus up front here in the US. Dribbling out stimulus in fits and starts apparently does not work with a liquidity trap We don’t seem to have a historical example of a country hitting a liquidity trap with really massive stimulus up front. Maybe that’s what the Chinese have done?
***I think if Japan had opened their economy in spirit and law and kept taxes down they would have recovered.***
Of course you do. I suppose it’s a waste of time to point out to you that Japan did keep taxes down. Lowering taxes and spending like a drunken sailor is how you treble your government debt.
Open their economy? What did you have in mind? I don’t think you know much about Japan, Few Americans do. Japan’s economy except for agriculture is fairly open and has been for at least three decades. One example, they started reducing auto tariffs in the late 1960s and removed them entirely in 1978. (I believe that the US still has some very small tariffs on imported cars). There are two reasons that the US doesn’t sell many cars in Japan. First, the NIhonjin drive on the left and prefer cars with the steering wheel on the right so imports tend to be based on British/Australian models. Second, American cars earned a reputation decades ago for terrible quality. The quality has improved, but why take a chance?
So, what would you advocate? Subsidizing imports in order to “open the economy” further?
BTW, I personally, think this unrestricted free trade thing is loony. I believe that there are going to be winners and losers. If there are losers, the US is going to be one of them. I live in the US. Why, exactly, should I shoot myself in the foot?
Japanese govt debts wasn’t all from Keynesian stimulus. A lot of it was the government finally shouldering bad debt from the private sector, mainly the zombie banks.
“We don’t seem to have a historical example of a country hitting a liquidity trap with really massive stimulus up front.”
We’ve have a several, but don’t tell the Tea Partiers: among them, Nazi Germany (with a massive arms buildup), and (no, really) Pinochet’s Chile, after he kicked out his Chicago Boys when none of the voodoo incantations seemed to be working. Worked pretty well both times. In the case of Chile, there was a liquidity trap *and* massive inflation; Pinochet cured the latter with — no, really — protectionism. He also nationalized more banks than Allende ever even considered. I guess somebody forgot to tell those people at National Review who still worship him.
***I look at the big difference between Japan and the US is that Japan had it’s two bubbles — tech and real estate — concurrently while the US had its two bubbles sequentially.*** Spencer
And the Japanese bubbles were much bigger. The Nikkei closed just under 39000 at the end of 1989. It was a bit over 10000 when I checked a few days ago. I don’t have real estate numbers handy, but I think they are equally dramatic. A similar drop in the Dow would have it at 3500 today, not 10000. (Yes, that’s oversimplified as the US numbers need inflation adjustments).
***Japan does not have significant foreign debt but the US debt to foreigners is denominated in dollars, so it is not really foreign debt. ***
Well, yeah. The US does not have the problem of the amount of foreign debt owed varying with the exchange date. But other than that, the US foreign debt is probably going to look a lot like any other (huge) foreign debt if/when our creditors cut our credit limit and seek repayment.
And start over with what, exactly? You? What do you bring to the table? A more advanced theoretical understanding than anybody living? Or even a good (documented) record of dumb-luck prediction?
I accept that economic predictions don’t always work well. I can’t accept that they are all worthless. Some economists have better batting averages than others. Krugman, for example, is frequently in I-told-you-so mode. It’s annoying as hell, but partly because he so often *did* tell us so. Is he “mainstream”? I’d say so.
What he’d probably tell you: just because Japan has a number of economic features that the U.S. would benefit by, doesn’t mean it can gain an advantage from those features by themselves. Nor does it mean that those features aren’t in some cases, too much of a good thing. “Ample” savings? The Japanese have (historically) saved too much. It’s manufacturing sector? Japan has concentrated too much on export industries, at the expense of domestic-demand-led growth. The U.S. has historically been quite the opposite.
***Japan clearly has and has had ample private sector savings. Japan has much less foreign owned debt. Japan has a manufacturing sector. Japan has had a trade surplus. All of these thing are what mainstream economists say the US needs to do. What good has it done Japan? Why will they do anything for the US? ***Jeff65
Good questions. The answer, I think, is that Japan’s relative economic rectitude has kept Japan from looking like Russia without natural resources. And getting the US’s obvious economic problems under control reduces the risc that we will end up like Argentina.
He did say their attempts at Keynesian stimulus failed. For lack of serious commitment. You can go look at his calculations. The theory tells you about how much you should spend to cover the output gap. The Japanese never got near that amount. What they *did* do, at least: maintain a low unemployment rate.
Really, it’s like saying “chemotherapy and radiation are ineffective cancer treatments”, after getting only fractional, repeated doses that only slowed the progression.
Why don’t you go and read up, and come back when you actually know what you’re talking about? You might, for example, go and look at how Pinochet, who was supposedly intellectually enslaved to the Chicago School, finally remembered how economies were rescued during the Great Depression, booted those bozos when their medicine didn’t work against 25% unemploment, and pursued massive job-creation strategies in the early 80s. The Chilean economy rebounded nicely.
“I wonder if two liquidity traps can produce offspring?”
What’s happening here (I live in Tokyo) is that deflation, which has been chronic, has become so consistent and so noticeable that it has finally yielded deflationary expectations, a very dangerous development. Unemployment is wobbling around 5%, which sounds nice by comparison to the U.S. but masks severe (but poorly reported) underemployment. Wages are falling. Business surveys yield a rather predictable sentiment among Japanese executives: things can’t get better unless consumption improves in the U.S., since Japan’s economy is still significantly export-oriented. Japan was probably pulled out of its slump in the 90s by bubble-driven spending in the West. Well, that’s probably over and done with, now. If left too long, demographic forces will eventually take over and threaten semi-permanent stagnation — Japan’s population has been shrinking for several years, and America’s might grow more slowly if it stops being so much of a “land of opportunity,” both for immigrants and for the newborns of its citizens.
Demographics explain a lot. If your population of workers ages and they (and existing retirees) buy all your Sovereign Debt you have a MAJOR problem when you don’t have enough babies to replace the existing workforce and bond purchasers. Economics and demographic studies become mainstream because that is what economics and demographics are. Statistics of human existence.
It’s probably too late to continue this thread. All I really ever knew about Japan is that the longer I lived there, the less I knew about the place and the people who live there. And that was four decades ago. Today, my knowledge of the place is confined to skimming through the Japan Times once or twice a month.
Has anyone proposed that Japan cut the working week enough to encourage some hiring? Between wider employment and more leisure time, maybe that would encourage greater domestic consumption.
Probably a dumb idea.
The problem with Keynesian stimulus is that it was designed under a gold standard, when issuing debt $4$ was the operational norm. The debt issuance is not necessary anymore ad I’m sure Keynes would advocate NOT issuing debt with the spending today, problem being that debt spending is more expensive;
When you create a bond every time you spend you pay the interest as well as the principle amount, that adds up over hundreds of billions and is totally unnecessary. Just buy something and dont issue debt, its completely pointless to issue debt. It is not an economic necessity to (doesnt make it less inflation prone) only a political exercise that has outlived its usefulness.
Patrick
I’m not sure I agree with this statement at all “Just about everyone now agrees that monetary policy is a superior tool for dealing with recessions and preventing depressions”
Monetary policy has been an abject failure rooted in mythology about how money works(Increasing money supply does not lead to inflation), how banks operate (providing capital to the banks to make loans is an absurd statement) and what the results of quantitative easing and other hocus pocus will be (Hint it doesnt lead to an increase in interest rates it actually puts downward pressure on them) Yes many mainstream economists repeat alot of drivel that comes from Mankiws textbook but they most certainly have not showed their superiority in “managing” anything. The only thing that kept this economy going the last 25 yrs was private debt accumulation. That has come to an end AND we most certainly have NOT avoided a depression. Wait til the stock market sells off before midterms, its probably gonna be ugly. All these guys have been “betting” on inflation because they fail to understand how this financial system works. The inflation betters (and there were lots of them) are going to get KILLED.
We are absolutely riddled with short termers, guys who are only looking to make the quick big return and hoping to profit off someone elses misery. Most of the vultures have gone hard with inflationary bets the last 6-10 months. We are looking more like Japan then Weimar Germany.
Maybe just maybe Japan has decided they dont care about the “GDP model” of measuring economic prowess. Maybe they’ve decided that this Anglo pissing contest too many are engaging in is senseless.
They seem to thumb their nose at the IMF and rating companies when they threaten them with downgrades and may just be saying “Hey our citizens want to live this way, screw you”. As has been pointed out, they have low unemployment, probably not a lot of homeless and poverty stricken and there are plenty of Japanese who can afford to travel. They seem more concerned with their society and not their economy. I could be off base but maybe their “lost decade” (from our perspective) is the decade they think they found themselves.
Codger,
US debt is also a problem because any devaluing of US currency costs other dollar related asset holders too. The fact that so many poor nations were encouraged to hold $assets as criteria for credit worthiness via the IMF is a major problem but not a popular topic here. The $$ has become tied to humanities wealth via short-term thinking.
We have to make room for some new ideas.
http://bilbo.economicoutlook.net/blog/
http://moslereconomics.com/
http://www.newdeal20.org/
http://neweconomicperspectives.blogspot.com/
I didn’t recommend throwing out economics. Just the worthless textbooks like Mankiw:
http://bilbo.economicoutlook.net/blog/?p=7446
And note that I didn’t say anything about predictions. Often the theory and reality are at odds even in hindsight. Ignoring or handwaving away these frequent occurences is cherry picking data. Even if you’re not pretending economics is scientific there’s only so much of that one should be able to get away with.