Look Out - Japan is a Powder Keg

Townhall.com ^ | December 29, 2011 | Mike Shedlock

[Kaslin]

A torrent of bad news hit Japan in November. Please consider some details from the Bloomberg article Japan Factory Output Falls on Global Slump

• Factory output fell 2.6 percent from October
• Exports fell for the second straight month
• Capital spending in the third quarter dropped 9.8 percent
• The Bank of Japan Tankan quarterly index of corporate sentiment fell to minus 4 this month. A negative figure indicates that pessimists outnumber optimists

Japan blames this mess on a strong Yen and Thailand’s worst flooding in almost 70 years. The flooding crippled the output in Southeast Asia of Japanese companies such as Sony Corp. and Honda Motor Co.

Japan created four separate "supplementary budgets" totaling of 20 trillion yen ($257 billion) to deal with the the earthquake and tsunami. In 2012, Japan will create a "separate budget" for reconstruction.

However, no matter how many piles spending is split into, Japanese deficit spending cannot be hidden.

Japan's problems don't stop there. Europe is Japan's third largest export market, and Europe is a basket case. Europe will remain a basket case if Eurozone austerity measures are even modestly implemented.

Land of the Rising Debt

Pater Tenebrarum had some excellent charts and commentary in his post Land of the Rising Debt

Government spending does not 'spur growth'. If it did, Japan would have been the world's growth engine for the past two decades. In reality, every cent the government spends must be taken from the private sector and therefore can no longer be spent or invested by it. We can see what the government's spending achieves (not much) – what we cannot see is what would have been achieved had the government left well enough alone and the private sector had saved, spent and invested instead. This is the 'broken window effect' – one must not only consider the obvious economic effects of a policy, but also the 'unseen' ones. Government spending is a burden, not a boon.

Like its counterparts in Europe, Japan's government tries to get its house in order not by reducing spending – apparently a completely taboo subject in Japan – but by raising taxes. This will predictably - just as it does in Europe - double the burden on the economy. Since these tax hikes are immensely unpopular in Japan, it is not necessarily likely that they will happen. Moreover, there may be no more time to take effective countermeasures against the growing debt load: the death spiral may well begin before such measures can be implemented and take effect.

Not only is Japan's debt-to-GDP ratio uncomfortably high, its tax revenues continue to decline precipitously as a percentage of government spending.



click on chart for sharper image

In such a situation, the level of interest rates becomes an ever growing concern. Right now, Japan's interest rates remain among the very lowest in the world. And yet, in spite of near record low interest rates, the percentage of tax revenue the government must spend on interest expenses is increasing fast.

Powder Keg Waiting for a Spark

The pertinent point is not the sorry state of affairs including a debt-to-GDP ratio of 220%, but rather when it matters. So far Japan has avoided printing on the scale of the Bernanke Fed, but one has to wonder how long that can continue in spite of Japan's dire worst in the industrialized-world demographics.


Tenebrarum points out "At the moment, JGB's trade like 'risk free' debt, in spite of the fact that Japan has lost its 'AAA' rating long ago and has been downgraded again this year, with further downgrades likely. Should the percentage of foreign ownership of JGB's rise significantly, the probability of a 'non-linear' debt market convulsion will rise commensurately. The Japanese government can 'financially repress' its own institutions, but not foreign investors."

"It seems rather like a powder keg waiting for a spark".

Indeed! Moreover, Japan's efforts to kick the can down the road perpetually issuing short-term debt that will need to be rolled over at some point insures the explosion will be massive once the debt-bomb finally ignites. Please see Japan Seeks to Market Record 145 Trillion Yen Bonds in 2012; Kicking the Can Japanese Style for a brief analysis.

[Will88]

Japan blames this mess on a strong Yen and Thailand’s worst flooding in almost 70 years. The flooding crippled the output in Southeast Asia of Japanese companies such as Sony Corp. and Honda Motor Co.

It seems most every industrialized nation that has exported many of its manufacturing plants and jobs to cheap labor nations ends up with a mushrooming debt problem.

[VanDeKoik]

Japan really doesn’t produce anything other than strange people and cartoons.

They are sunk because they depend on everyone else.

[Eric in the Ozarks]

This could be why Honda is building three new assembly plants in the US...

[spokeshave]

This is the third article this morning that rates a "deflation ping"

scary.

[GonzoGOP]

It seems most every industrialized nation that has exported many of its manufacturing plants and jobs to cheap labor nations ends up with a mushrooming debt problem.

Farming and industry create wealth. The value of the output is greater than the value of the input and labor. All other fields of endeavor just take a cut.

This is not always a bad thing. Transportation for example moves goods from where they are produced to where they are needed, taking a cut for the essential service provided. However many cut takers provide non essential services, simply keeping track of what the wealth producers are doing, but not actually helping the process along. At first these are necessary, the shipping clerk, the guy in the mail room, an accountant to make sure everyone gets paid.

However as time goes on the amount of this dead weight on the system increases to a point it can no longer be sustained. Either because of excess regulation, and the legions of bureaucrats it spawns, or the departure of industrial base. In our case we suffer from both. Because farming and especially industry create a lot a value you can support a lot of cut takers for every value producer. But at some point there isn't enough industry to support the cut takers. Then comes the debt to keep the system running and the bureaucrats employed.

[Will88]

This could be why Honda is building three new assembly plants in the US...

I think Japan initially started building auto plants in the US to fend off the growing pressure for some restrictions as they began to take a larger and larger share of the US auto market. Now, producing where a firm plans to sell makes a lot of sense and it avoids several potential problems. US auto makers have done this in Europe since pre-WWII.

Honda is also building a new plant in Mexico that will employ 3,000.

[junta]

General Macarthur called Japan a nation of 12 year olds. I believed the hysteria that Japan was going to rule the world, till I was stationed there for a year (84-85). I’ll be blasted by the Blank Slate Theory crazies, but basically Japan would love to revert to a norm of feudalism and stagnation instead of some stupid white liberals one world nonsense.

[KoRn]

"It seems most every industrialized nation that has exported many of its manufacturing plants and jobs to cheap labor nations ends up with a mushrooming debt problem."

Attempting to replace real growth/production with debt? Probably looks great for a few years. Long enough to win a few elections, inflate stocks, increase housing prices, and increase bonuses for corp executives. Then the party ends, which is where we find ourselves today.

[Eric in the Ozarks]

Maybe another tour would convince you otherwise.

[BfloGuy]

Japan really doesn’t produce anything other than strange people and cartoons.

Japan is the world's third largest manufacturer after the United States and China. It produces the largest manufacturing output per capita in the world. I don't know what you're talking about.

[Will88]

But at some point there isn't enough industry to support the cut takers.

Per Robert Rector of the Heritage Foundation, the US government now spends almost a trillion per year on welfare type programs for working age Americans and their families. Of course, 40% of that is borrowed money.

Medicaid is the biggest of those programs.

[Moonman62]

They are sunk because they depend on everyone else.

Right. Instead of focusing on internal growth, they focus on a weak currency, exports, and maintaining the status quo. It's wrong, but it's popular with politicians, large established corporations, and can be sustained for a very long time.

[Will88]

Then the party ends, which is where we find ourselves today.

Yep, and we're just puzzling about how it will all be resolved, and maybe trying to prepare for it.

[ElectronVolt]

Farming and industry create wealth. The value of the output is greater than the value of the input and labor. All other fields of endeavor just take a cut.

Yes, but they don't improve wealth by themselves. In the 1700's just about everyone was farming or making something. Science and technology increase efficiency so that each unit of input makes more units of output.

Those "cut takers" can actually enhance efficiency. I've created many analytical software systems that help a corporation plan huge expenditures of money. I take a small cut, but I've saved millions of dollars in waste. Keeping track of what a wealth producer is doing isn't non-essential; it's critical. Any company that doesn't do this will fail.

[Tax-chick]

The article’s title and some of the rhetoric implies that the author foresees some sort of violent eruption in or from Japan, should the anticipated economic events occur.

What, I wonder, would that be? Japan’s population is older, in the aggregate, than the population of The Villages, and there are fewer NRA members and a lower percentage of military retirees in Japan. Whom does he imagine is going to “explode”: the elderly, or the Lolitas in “Hello Kitty” costumes?

[BfloGuy]

they focus on a weak currency

Japan's currency is the strongest it's ever been. They are still a manufacturing super-power and exporter because they've had no inflation for a decade. That is the result of the BOJ maintaining a stable monetary base.

When there's no inflation, technological advances result in productivity increases that are reflected in lowered prices to consumers. This has enabled Japan (and Germany, too) to maintain their trade surplus even in the face of a rising currency.

Japan doesn't need to develop its internal economy. Its internal economy is just fine as evidenced by the high standard of living and low (4.6%) rate of unemployment. Its government spending, on the other hand, is ridiculous.

[BfloGuy]

Those "cut takers" can actually enhance efficiency.

I agree. "Cut taker" is the wrong term. Every person who contributes to the manufacture and sale of a product creates added value (wealth). There are two economic types: wealth creators and wealth consumers.

The largest wealth consumers are government, the health industry and education. There are tons more, of course, but those are the biggies.

[BfloGuy]

Instead of health “industry”, I should have specified health providers. The pharmaceutical companies and medical device manufacturers are wealth creators.

[Will88]

It produces the largest manufacturing output per capita in the world.

And that's only way Japan could have become a wealthy nation since it has limited natural resources. And it also has limited agricultural, timber and mining, and had to import much of what it needed to build it's manufacturing industries.

The question now is how much of their manufacturing have they moved to cheap labor nations, and can what is left support their domestic employment needs and their aging population.