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What really caused Japan's Lost Decade?

by NBBooks Wed Mar 24th, 2010 at 03:08:47 AM EST

It's been a week since I first left this as a comment on DailyKos, but it is something I have been pondering for over a year. I am placing it before the readers of European Tribune to see if others recollect the same sequence of events, and their effect. Please do not let your initial reaction be your first judgment, because the "common wisdom" has been repeated so long and so often, that even I had come to believe it. Until, that is, this past month, when I was searching through some old files of mine and found a summary study I had forgotten about. What really caused Japan's Lost Decade? What do you remember about that period of time, the late 1980s, and early 1990s, not long after London's Big Bang?

One thing that caught my attention in the recent Atlantic profile of Treasury Secretary Tim Geithner was Geithner's being posted to Japan just as the infamous "Lost Decade" was beginning. There is one paragraph in which Geithner purveys the usual Versailles version of what caused the Lost Decade: that Japanese officials were unwilling to recognize that Japanese banks had been bankrupted by bad loans made in a frenzied real estate bubble.

Promoted by afew


The cure, according to this establishment "common wisdom" was for Japan to force the banks to write off the bad loans - and this has been repeated quite a bit since the U.S. financial system melted down for similar reasons. Here's the paragraph from the Atlantic profile of Geithner:

Geithner was sent to Tokyo as assistant Treasury attaché in the U.S. Embassy in the spring of 1990, arriving just after the Japanese real-estate bubble burst and the Nikkei index began its dizzying fall--the beginning of Japan's "lost decade" of deflation and stagnation. The United States' role was that of the stern parent, urging Japan to confront the reality that its banks were paralyzed by bad loans. The Japanese government was loath to recognize the problem, preferring to wait in hopes that its banking system would heal itself. This strategy of denial necessitated lots of diplomatic feints and thrusts, and part of Geithner's brief was keeping abreast of the recondite details and knowing their possible second- and third-order effects. For the most part, the U.S. pressure failed. But working on the problem was enlightening. "You learn much more about a country when things fall apart," Geithner says. "When the tide recedes, you get to see all the stuff it leaves behind."

I'm not going to outright assert here that the "common wisdom" about what caused Japan's Lost Decade is all wrong - I'm merely going to suggest that it is, based on my admittedly dim memories of what was happening at the time, almost exactly twenty years ago. I first posted this as a comment about a week ago, and since then I have not been able to find any substantial corroborating information on the internet. But this is what I remember, so I want to throw it out there and see if others remember the same sequence of events, and arrive at similar conclusions.

Through the 1950s and 1960s, as I understand it, the Japanese financial system was much more closed and tightly controlled than in the U.S. This began to change in the 1970s, what with the U.S. waging a war on credit, two oil shocks, and Paul Volcker killing off inflation by killing off American industry.

But the real big changes came in the 1980s, when the Reagan administration, a bunch of yahoo "free market zealots, beat the bejeebers out of Japan and forced the Japanese to open their financial markets to greater "participation" by foreign firms. Can you guess what that meant? Yeah, Goldman Sachs, Salomon Brothers, Morgan Stanley, and the rest of the crew get to set up shop in Tokyo. Or, if they were already there, suddenly found that they had a lot less restrictions.

My suspicion is that the Japanese decided to let the wolves into a fresh hen house in the hopes of staving off any trade retaliation by the Reagan administration against the flood of Japanese cars, steel, machine tools, electronics, and other stuff that was flowing into the U.S. In the late 1980s, I used to get the reports from the U.S. International Trade Commission that had to be done whenever there was a formal complaint by a U.S. company of dumping or some other unfair trade practice. Back in the 1970s and 1980s, most of U.S. industry was still run by, you know, industrialists instead of MBAs, so when the Reagan yahoos came along with their neatly packaged theories about more competition will be you stronger, there was outcry and uproar. Wow, you should have seen the fuss some of the folks at the Pentagon put up about the decline of the U.S. industrial base. I'm pretty sure Pat Buchanan coasted on their position papers for the next decade.  I suppose Reagan's defense build-up alleviated some of the pain the military-industrial guys felt.

Anyway, the cast of cutthroats from Wall Street now have a bigger presence and a freer hand in Tokyo, and, interestingly enough, the Japanese stock market goes on a speculative tear.  From around 10,000 in 1980, the Nikkei index more than triples to around 35,000 by the end of the decade.

At the same time, contrary to the expected outcome of Reagan's idea of forcing U.S. companies to compete in world markets, the U.S. trade position is collapsing, and the dollar is getting slammed, especially against the yen.

Then comes October 1987, and Wall Street has one of its historically spectacular belches of indigestion. Try to imagine the pressure a bunch of panicked Reagan yahoos - who are watching their whole philosophy of free markets collapse along with the Down Jones Industrials average -  put on the Japanese to help prevent financial Armageddon. One way the Japanese obliged was  by holding their interest rates absurdly low for much loner than made any sense. And, they offered lots of easy money from the Bank of Japan. David Hale, an influential U.S. business economist at the time, wrote in August 1989:

During the second half of the decade, it was the Japanese MOF [Ministry of
Finance] which used a mixture of direct intervention and moral suasion to protect the US financial system from sharply rising interest rates at a time when foreign private investors lost confidence in the US dollar.

Ridiculously low interest rates, and lots of east money, of course, result in massive bubbles in Japanese stocks and real estate. Why would the Japanese put themselves in such extreme financial straits at the behest of St. Ronald? Two words: nuclear and umbrella.

In December 1989, the new Bank of Japan Governor Yasushi Mieno began to try to carefully deflate these speculative bubbles with a series of calibrated increases in interest rates.

But it doesn't work. The financial markets don't respond as expected, and it proves to be nearly impossible to gauge markets responses and exercise restraint. What the Japanese didn't quite realize at the time - and this is what blindsided them - was that the American financial firms had developed new capabilities, which had fundamentally altered the character of the financial markets. These new capabilities were called derivatives, and the Japanese just were not accustomed to dealing with them. In fact, there had been no futures markets in Japan until 1988. The American firms had developed program trading, which tied trading of stocks in the stock market, to trading in Nikkei index futures in the futures market. Even worse, the American firms were betting big against higher interest rates in Japan. They would lose a lot of money if Mieno  were actually able to engineer the careful escalation of interest rates needed to deflate the housing and stock market bubbles in a controlled fashion.

Suddenly, and unexpectedly, a gradual decline in the Japanese stock market turned into a panic collapse. I don't know why, but it is clear that a propagation mechanism - the program trading technology, linking the Chicago futures markets with the Japanese stock markets and futures markets - had quietly been put in place by Salomon Brothers, Goldman Sachs, Morgan Stanley, and a few City of London outfits, and the Japanese were clearly playing catch up.

It took a while for the Japanese to figure out what the hell was going on, and when they did, they tried (bless their honest but naive souls) to restrict some of the more egregious aspects, such as the leveraged trading of financial derivatives, but that caused a whole new dust-up with the Americans in summer 1993. And by that time, the bubbles in Japan had burst uncontrollably and the "Lost Decade" had already begun.

One last thing that has bothered me for years: the carry trade. In order to combat the Lost Decade, the Bank of Japan resorted once again to absurdly low interest rates. But, because of Japan's acceptance (and how willing was that acceptance?) of the neo-liberal "Washington Consensus," the Japanese could not impose severe capital restrictions to ensure that cheap money actually stayed in Japan and did what it was supposed to. Has anyone looked at what effect the carry trade had on Japan's attempts to fight the Lost Decade? My observation is that every discussion of the Lost Decade I have ever seen has never mentioned the development of the carry trade, and how much cheap money was exported from Japan.

So, my friends, that's what I remember was happening at the time, along with my suspicions of what was going on behind the scenes. Obviously, it would have seriously slowed down the development of American "turbo capitalism" (as Der Speigle called it a year or so ago), if the story got out and gained traction that what pushed Japan into a Lost Decade  was not so much Japanese mismanagement, as American financial engineering run wild. It is my suspicion that Timmy earned big brownie points by helping to write the "victor's history" of what caused of Japan's Lost Decade, and thereby cover up, or, at the very least, deflect attention from, the role of Wall Street. And Timmy has gotten his rewards. For which we will be paying for a very, very long time.

Display:
Excellent analysis. The back story, how and why the Japan real estate bubble got to be that way, is where the finger of blame might be pointed at the usual Wall Street suspects. I hope Japan and other likely future victims know and have studied the real story well.

I would guess that Geithner played virtually no role in anything, other than a pretty face to fool the yokels and NY Times pundits. Like his role now.

fairleft

by fairleft (fairleftatyahoodotcom) on Mon Mar 22nd, 2010 at 06:58:59 PM EST
That all sounds about right to me...

The Conventional Wisdom never actually talks about the Japanese Bubble in detail - much as Serious People are already learning now to talk about the deficit and ignore the bubble that precipitated the latest crisis.

One thing that is clear to me from a number of ET discussions that doesn't seem to have made much mileage elsewhere (except Naked Capitalism some days) is that a number of things interacted:

  • deregulation
  • the resurrection of old tools from the 20s (typically called "financial innovation")
 - the networked economy (which allowed the tools to grow further than in the 20s)
- the structure of the banking system

The effect was that far more than ever in the past, money creation was in the hands of the banks and other private financial institutions. For them, increasing the money supply led to more deals they could skim transaction fees from...

Of course, one can't ignore the Greenspan put, etc. but your diary suggests to me that a critical part of making such a massive bubble was the move of the control money creation into the private sector, using instruments that did not show up under many of the conventional measures of money supply. Thus the parallels between your memory of the Japan crisis and the latest crisis are rather strong.

At the same time, the decision to abandon measures which did highlight some of what was going on was just insane... who knows if that was malice or incompetence...

by Metatone (metatone [a|t] gmail (dot) com) on Mon Mar 22nd, 2010 at 07:15:56 PM EST
the decision to abandon measures which did highlight some of what was going on was just insane... who knows if that was malice or incompetence...

I will only note that any competent bank burglar knows to disable the intrusion detection system before going for the money.  

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Mar 22nd, 2010 at 09:16:55 PM EST
[ Parent ]
who knows if that was malice or incompetence...

The two are not mutually exclusive.  The Cheney administration proved that beyond a shadow of a doubt.

We all bleed the same color.

by budr on Tue Mar 23rd, 2010 at 08:40:20 AM EST
[ Parent ]
the decision to abandon measures which did highlight some of what was going on was just insane...

You keep referring to the comments to my diary The M3 money supply: much ado about nothing? from October 7th, 2007.


The brainless should not be in banking -- Willem Buiter

by Migeru (migeru at eurotrib dot com) on Tue Mar 23rd, 2010 at 11:30:08 AM EST
[ Parent ]
wow 2.5 years ago...

time flies.

I think it's important, but I don't have a proper theory - just the same hunch. It all ties together, but M3 is just a marker, the important bit is the belief that wage inflation matters, but asset inflation does not...

by Metatone (metatone [a|t] gmail (dot) com) on Tue Mar 23rd, 2010 at 12:21:23 PM EST
[ Parent ]
I think the belief is more that wage inflation is inflationary and v. v. bad, while asset inflation isn't just an entirely good thing, it's the whole point of the exercise.

But for consumers, there's very little practical difference between wage inflation and asset inflation. If I'm in the middle of a housing bubble and spending 60% of my income on a mortage or on rent because I have no choice, the real cost of everything else might as well have increased.

In contradiction to the theory, I'd suggest that the real determinant of inflation is the balance between discretionary or forced spending. The ticket price of individual items is a secondary factor.

If I'm forced to spend an amount on X, that means I no longer have the choice to spend it on Y, and I'm effectively impoverished in real terms, in almost exactly the same way as I would be a by a tax increase.

Wage inflation can have the same effect if it's systemic - but currently corporations have plenty of scope for raising wages without increasing prices, so that hardly applies.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Tue Mar 23rd, 2010 at 01:50:12 PM EST
[ Parent ]
asset inflation isn't just an entirely good thing, it's the whole point of the exercise.

Well, considering that stock market indices are indices of asset price level and the attention the serious people pay to them as indicators of economic health... I think you may be onto something.

The brainless should not be in banking -- Willem Buiter

by Migeru (migeru at eurotrib dot com) on Tue Mar 23rd, 2010 at 01:54:51 PM EST
[ Parent ]
ThatBritGuy:
But for consumers, there's very little practical difference between wage inflation and asset inflation.

Not quite. Assets inflation benefits asset owners who see their net worth grow (along with the income they can earn), while everything a consumer spends money for is not necessarily an asset: food, clothing, transportation and utilities...
Wage inflation rather than asset inflation is actually much more useful for these everyday expenses, and this is precisely where the gap has grown over the past decades, partly covered by growing debt: Assets have grown. Wages have not.
by Bernard on Tue Mar 23rd, 2010 at 04:52:21 PM EST
[ Parent ]
Assets inflation benefits asset owners who see their net worth grow (along with the income they can earn)

The most important function of asset prices is for valuing the assets as collateral for debt. Owners don't benefit from the income they can earn so much as from the leverage they can put on their assets. Add limited liability and you're set.

The brainless should not be in banking -- Willem Buiter

by Migeru (migeru at eurotrib dot com) on Tue Mar 23rd, 2010 at 05:13:08 PM EST
[ Parent ]
That's why I said for consumers - whether they're on the wrong end of asset or wage inflation, they see rising prices and falling spending power.

They can compensate for wage inflation by attempting to increase their wages. Wage control rhetoric is structured to make this seem plausible, and also to limit it 'for everyone's good.'

There's no equivalent narrative for asset inflation. A house price bubble is labelled an opportunity, not a tragedy.

As Mig says, the other critical difference is leverage - assets can be leveraged to increase their nominal value, consumer goods and services can't.

Politically, the difference leads inevitably to plutocracy - or possibly it starts with plutocracy and leads inevitably towards its maintenance.

Effectively, power is defined by discretionary spending. Asset inflation squeezes discretionary spending, which in turn squeezes the political and economic power of consumers while enhancing the spending power of the ownership class.

Wage 'inflation' has the opposite effect. With generous discretionary income, consumers have more choices about how to spend their time, and aren't limited to 'productive' work.

Another relevant point is that historically, wage inflation has never been the cause of hyper-inflation. Although it's not often stated explicitly, there's often the implication that wage inflation will lead to a run-away inflationary death spiral.

In reality, hyper-inflation always happens for other reasons.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Tue Mar 23rd, 2010 at 07:23:54 PM EST
[ Parent ]
Forced spending? Homo economicus knows of no forced spending. Homo economicus needs no home - he (because being a women is uneconomical) can sleep in a tent. Homo economicus need not buy food when perfectly good food is thrown away every day.

In boom times homo economicus has a high paying job and lives like a bum, and when the bust comes he can cash in.

If this seems implausible to you you must not have met homo economicus, fortunately serious economists seem to know him very well.

Sweden's finest (and perhaps only) collaborative, leftist e-newspaper Synapze.se

by A swedish kind of death on Wed Mar 24th, 2010 at 05:15:01 AM EST
[ Parent ]
My take is that the Japanese interest rates were low because wealth - and they gathered a LOT of it being diligent exporters - is pretty evenly spread in Japan (much more so than most other countries) and Mrs Watanabe preferred to keep her money patriotically stashed in the Post Bank or JGBs.

But as alternatives to getting derisory returns on debt, the Japanese began to pitch in to property and stocks, and even levered up to do it. Eventually it all went pear-shaped and credit started to drain out of the system in a classic debt deflation.

Now, turning to your points, firstly, while US players had quite a role in developing the futures markets, and providing liquidity, don't forget that derivatives - particularly cash-settled index derivatives like the Nikkei - are the tail, not the dog. There may have well have been margined stock buying - I'm not sure of the extent of that, and don't forget the extent to which Japanese corporations hold stock in each other. But the point is that derivatives followed the market, and did not lead it.

Secondly, when bonds are at or near zero; stocks are collapsing, and property too, then the more risk friendly Mrs Watanabes who had been in those domestic markets finally had nowhere else to go than overseas

European Tribune - Comments - What really caused Japan's Lost Decade?

the Japanese could not impose severe capital restrictions to ensure that cheap money actually stayed in Japan and did what it was supposed to.

Capital restrictions are only of use to protect currency eg Mahathir of Malaysia putting two fingers up to the global markets and coming out just fine. But currency weakness is hardly a problem for Japan.

The mistake you make here, and it's exactly the same cosmic misapprehension - particularly in relation to the nature and effect of QE - that permeates almost all conventional economics, is that keeping Yen in the domestic financial economy doesn't mean that Yen gets out into the real economy. It didn't; it still doesn't; and it never will. Conventional economics is bollocks in many respects, but particularly because its assumptions in respect to money and credit are diametrically wrong.

The point is that in order to be effective money must be lent or spent into the economy, and that requires fiscal, not monetary, action.

Governments abdicated credit creation to private banks hundreds of years ago, but if banks are unwilling or unable to lend or spend money into circulation then it is incumbent on governments to do so directly, through the creation of Public Credit (aka QE). Allocation of such Public Credit would ideally be managed professionally by someone with a stake in the outcome (ie banks acting as service providers), and under the supervision of a competent Monetary Authority. There is not and never has been a need for a Central Bank - Hong Kong has never had one, for instance.

It is only ideology that prevents QE funding for investment, public and private, in productive assets. QE is actually LESS inflationary than bank credit to the extent that it comes without unjustified salary excesses, and dividends to shareholders on the capital supporting credit creation.

The Big Lie is that private credit creation by banks as credit intermediaries is necessary: it's not, and it never has been.

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Mon Mar 22nd, 2010 at 08:03:58 PM EST
Mrs Watanabe preferred to keep her money patriotically stashed in the Post Bank

Which is why (re)former prime minister Koizumi staked his political capital on Post Bank privatization, and <sinks head> won.

The brainless should not be in banking -- Willem Buiter

by Migeru (migeru at eurotrib dot com) on Tue Mar 23rd, 2010 at 01:11:52 PM EST
[ Parent ]
A chart of the Nikkei index since 1970, of the BoJ prime rate for the same period and the Yen vs US$ might be a helpful start. Below is some timeline information:

Here is a chart of the Nikkei:

Feb 23, 1986 - Two of the other five newly admitted firms are US securities companies, Morgan Stanley and Co. and Goldman, Sachs and Co. The remaining three, Vickers Da Costa Ltd., SG Warburg, and Jardine Fleming Holdings Ltd., are British.

Feb 14, 1986 - As an exchange member, it will no longer have to pay commissions to Japanese traders. Goldman, Sachs; Morgan Stanley and three British securities firms will all begin trading on the Tokyo exchange in the next few months.

Apr 5, 1987 - Fueled by investments from Japanese banks, insurance companies and securities firms--some the largest in the world--Japan has become the biggest foreign holder of US debt. Moreover, its direct investments range from Sumitomo Bank's $500 million participation in Goldman, Sachs & Co. ...(Prevented by law from exercising voting rights in Goldman.)

Aug 16, 1989 - TheVfall Street Journal, reported on Aug. 16, 1989, that Salomon Brothers, Merrill Lynch, Goldman Sachs, and Morgan Stanley Japan Ltd. are doing well in Japan, but "on the whole, foreign losers vastly outnumber the winners.
 

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Mar 22nd, 2010 at 11:23:58 PM EST
The Goldman Sachs Group Inc.

....
John L. Weinberg and John Whitehead were promoted to senior partners upon the death of Gus Levy in 1976. Some years later, Whitehead left the firm to become Assistant Secretary of State in the Reagan administration, and Weinberg became chief partner and chairman of the management committee.

....

In early 1989, in an effort to retain its partnership status in the face of growing corporate competition, Goldman, Sachs elected to seek capital to expand its merchant-banking activities. With seven insurance companies, it formed a ten-year consortium that infused the firm with $225 million in new capital. Structured like a preferred stock, the expanded partnership was similar to that undertaken in 1986 with Japan's Sumitomo Bank when the bank purchased a 12.5 percent share of the brokerage house for upwards of $500 million. While entitled to 12.5 percent of Goldman, Sachs's profits, Sumitomo, like the newer partners, would be prevented by federal law from having voting rights within the firm. Goldman, Sachs would continue to accept such equity investments into the next decade.

....

Goldman, Sachs began the 1990s with a boom, reporting a record pre-tax profit of $1.1 billion in 1991 and paying out end-of-1992 bonuses of 25 percent annual salaries to employees. By 1993, the company had become one of the most profitable in the world, with pre-tax earnings of $2.7 billion. Some of this gain could be attributed to its successful offering of Japanese securities to U.S. investors as other than foreign exchange instruments, as well as the investment banking firm's expansion of its markets overseas.


I would hardly be surprised to find that G-S aggressively shorted the Nikkei starting in '89, while still selling Nikkei stocks to US clients and continued to do so, especially during the bear market rallies that followed through '92. Nor would I be surprised were they to have engaged in massive naked shorts at such times while operating through the CBOT to insure that things go in the preferred direction.

I doubt that G-S or J.P. Morgan can be blamed for the growth of the Nikkei bubble but their derivative "innovations" were well timed to benefit from the bust.

Through the mid '90s G.E. lived off of the Japan Carry Trade. Getting Yen for almost zero interest and doing almost anything with them in the USA is, is suspect, a large part of what gave Jack Welch a reputation for financial genius. That was the funding source for G.E. Capital during that time. I wouldn't be surprised to find that G-S was involved.

But the case still has to be made.

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Mon Mar 22nd, 2010 at 11:46:09 PM EST
[ Parent ]
Y'know, when I extend the smooth upward curve from 1970 to 1985 through to 2000, it matches the actual range around 2000 fairly well.

If anything, the striking features of this index are that

  1. The real lost decade is the noughties.

  2. Volatility went way up after the bubble.

- Jake

Friends come and go. Enemies accumulate.
by JakeS (JangoSierra 'at' gmail 'dot' com) on Tue Mar 23rd, 2010 at 12:56:54 AM EST
[ Parent ]
Volatility went way up after the bubble.

All the better for trading profits.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Tue Mar 23rd, 2010 at 09:51:45 AM EST
[ Parent ]
Crises, depressions, hard times, dull times, brisk times, periods of speculative advance, "eras of prosperity," are primarily phenomena of business; they are, in their origin and primary incidence, phenomena of price disturbance, either of decline or advance. It is only secondarily, through the mediation of business traffic, that these matters involve the industrial process or the livelihood of the community. They affect industry because industry is managed on a business footing, in terms of price and for the sake of profits. So long as business enterprise habitually ran its course within commercial traffic proper, apart from the industrial process as such, so long these recurring periods of depression and exaltation began and ended within the domain of commerce.(3*) The greatest field for business profits is now afforded, not by commercial traffic in the stricter sense, but by the industries engaged in producing goods and services for the market. And the close-knit, far-reaching articulation of the industrial processes in a balanced system, in which the interstitial adjustments are made and kept in terms of price, enables price disturbances to be transmitted throughout the industrial community with such celerity and effect that a wave of depression or exaltation passes over the whole community and touches every class employed in industry within a few weeks. And somewhat in the same measure as the several modern industrial peoples are bound together by the business ties of the world market, do these peoples also share in common any wave of prosperity or depression which may initially fall upon any one member of this business community of nations. Exceptions from this rule, of course, are such periods of prosperity or depression as result from local (material) accidents of the seasons and the like, - accidents that may inflict upon one community hardships which through the mediation of prices are transmuted into gain for the other communities that are not touched by the calamitous act of God to which the disturbance is due.

The true, or what may be called the normal, crises, depressions, and exaltations in the business world are not the result of accidents, such as the failure of a crop. They come in the regular course of business. The depression and the exaltation are in a measure bound together. In the recent past, since depression and exaltation have been normal features of the situation, every strongly marked period of exaltation (prosperity) has had its attendant period of depression; although it does not seem to follow in the nature of things that a wave of depression necessarily has its attendant reaction in the way of a period of business exaltation. In the recent past - the last twenty years or so - it has been by no means anomalous to have a period of hard times, or even a fairly pronounced crisis, without a wave of marked exaltation either preceding or following it in such close sequence as conveniently to connect the two as action and reaction. But it would be a matter of some perplexity to a student of this class of phenomena to come upon a wave of marked business exaltation (prosperity) that was not promptly followed by a crisis or by a period of depression more or less pronounced and prolonged. Indeed, as the organization of business has approached more and more nearly to the relatively consummate situation of to-day, - say during the last twenty years of the nineteenth century, - periods of exaltation have, on the whole, grown less pronounced and less frequent, whereas periods of depression or "hard times" have grown more frequent and prolonged, if not more pronounced. It might even be a tenable generalization, though perhaps unnecessarily broad, to say that for a couple of decades past the normal condition of industrial business has been a mild but chronic state of depression, and that any marked departure from commonplace dull times has attracted attention as a particular case calling for a particular explanation. The causes which have given rise to any one of the more pronounced intervals of prosperity during the past two decades are commonly not very difficult to trace; but it would be a bootless quest to go out in search of special causes to which to trace back each of the several periods of dull times that account for the greater portion of the past quarter of a century. Under the more fully developed business system as it has stood during the close of the century dull times are, in a way, the course of nature; whereas brisk times are an exceptional invention of man or a rare bounty of Providence.

...

It will be noted that the explanation here offered of depression makes it a malady of the affections. The discrepancy which discourages business men is a discrepancy between that nominal capitalization which they have set their hearts upon through habituation in the immediate past and that actual capitalizable value of their property which its current earning-capacity will warrant. But where the preconceptions of the business men engaged have, as commonly happens, in great part been fixed and legalized in the form of interest-bearing securities, this malady of the affections becomes extremely difficult to remedy, even though it be true that these legalized affections, preconceptions, or what not, centre upon the metaphysical stability of the money unit.

(Veblen's _Theory of Business Enterprise_ Chapter 7, The Theory of Modern Welfare; e-text)

The brainless should not be in banking -- Willem Buiter
by Migeru (migeru at eurotrib dot com) on Tue Mar 23rd, 2010 at 04:41:08 AM EST
Where oh where is Wall Street to get double digit returns after the taxpayer is bled dry? They will be so depressed. They think double digit returns are a birth right.

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Tue Mar 23rd, 2010 at 02:50:53 PM EST
[ Parent ]
The most ridiculous thing about the Villagers' take on the Lost Decade is that a generation of regulators in the US (Bernanke, but apparently from what you quote also Geithner) have spent their adult life lecturing everyone about all the mistakes the Japanese made to bring about the "Lost Decade" and then went on to make the same mistakes - same asset bubbles, same refusal to write down debt, same absurdly low interest rates throughout.

The brainless should not be in banking -- Willem Buiter
by Migeru (migeru at eurotrib dot com) on Tue Mar 23rd, 2010 at 04:53:24 AM EST
I don't understand why there's still no acceptance that these crises are engineered and inevitable - they're not something that 'just happens', they're what 'just happens' when you allow financial pirates to rob you by putting them in charge of the casino.

Greenspan, Geithner et al don't see their actions as mistakes, because they were never acting in the interests of the people whose lives have been ruined by them.

The Wall St plutocracy is a government within a government. It has no interest in the metrics that the rest of us live by, except to the extent that those metrics can be pressured and manipulated for the plutocracy's benefit.

NCE isn't just bollocks, it's kabuki - it's a public lie designed to protect and promote private privilege.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Tue Mar 23rd, 2010 at 11:30:04 AM EST
[ Parent ]
The amazing thing is the mendacity. Take the Greek complaint that while speculation has not caused the Greek debt problem, it aggravated it. The charge is that those who originated derivative contracts and sold them are now flipping to the long side and taking advantage of handsome interest rates on Greek bonds. There are charges of collusion and momentum plays in this market.

These charges are beaten back by people who point to a CDS index that shows the CDS market for Greece went from $20 billion to $80 billion in the last few months, and they explain that this $80 billion doesn't even cover 1/3rd of Greek debt, so that much of the debt is still uninsured.

But when you hear calls for transparency, for a clearing house to be developed so that these loans are not solely made in private, a hue and cry is hear. Why? Isn't the so-called CDS index that shows us how much has been bet on Greece, isn't it accurate? Why would you oppose something that effectively duplicates what this CDS index does?

The reason, I'm assuming, is that the CDS tracking may be tracking increases and volatility in the market, but it certainly isn't capturing the big picture as there are no regulations out there which force people to report their contracts to the indexes. There's a shadow market out there, so that any reporter who claims a negligible amount of insurance on Greek debt does not have the necessary information to actually make that claim.

by Upstate NY on Thu Mar 25th, 2010 at 10:11:48 AM EST
[ Parent ]
The regulatory elite in Japan and U.S. apparently served/serve the same masters, their Wall Streets.

fairleft
by fairleft (fairleftatyahoodotcom) on Tue Mar 23rd, 2010 at 03:24:21 PM EST
[ Parent ]
... collapse, and quite a lot less goes into thinking through why a whole decade was lost as a result.

But that's General Theory Keynesian Macro 101, which only gets complicated if you try to put it into the terms of the neoclassical catechism.

In the 1980's, domestic value added of most Japanese export products was in the range of 90%, and imported value added focused on raw materials. In the 1990's, Japan Inc. decided to shift that to closer to 60% domestic, 40% imported, with a lot of that labor intensive production stages, first in Southeast Asia then in China.

Domestic business fixed investment plummeted while FDI (Foreign Direct Investment) rose. In the depressed economic conditions that result, the only reasonably monetary policy is a nil or negligible cash rate.

Obviously the combination of a rising Yen income and pressure from the Washington Consensus institutions of IMF and World Bank to "open up financial systems" made for a toxic combination of income in own currency and borrowing in another, with the protection against adverse cross exchange movements being largely neglected under the "self regulation" dogma for maximizing transnational corporate economic power. ... however, that failure of financial deregulation in the "Asian Financial Crisis (sic)" was laid at the feet of "crony capitalism", and not at the feet of the failed financial deregulation policy.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Tue Mar 23rd, 2010 at 06:42:20 PM EST
IIRCC, it was in the late '80s that the wages at major Japanese corporations such as Toyota, Sony, etc. reached parity with union wages in the USA. That was when Japan began "offshoring" a lot of manufacturing activities, including TV assembly to Vietnam and printed circuit board manufacture and assembly to Taiwan, first, and then to where ever there were cheap wage rates. But, of course, the domestic supply chain that fed Toyota, etc. didn't have many "salary men" in their employ.

Cutting way back on domestic investment and domestic entry level jobs is a prescription for stagnation. And the LDP tried to fill the gap with domestic infrastructure projects for the domestic construction industry, with, I recall, lots of complaints from The Economist about poor decisions. Even from 1931 Keynes had a coherent macro theory as to why capital and government sector spending was important to prosperity.

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Wed Mar 24th, 2010 at 12:07:06 PM EST
[ Parent ]
Andy Xie gives a fairly good, albeit pessimistic, account of things in his very recent piece entitled Our Next Economic Plague: Japan Disease

Unlike my own tortured and convoluted sentences, Xie writes with simple clarity unusual amongst his ilk.

by NihonCassandra (rusol1@yahoo.com) on Tue Mar 23rd, 2010 at 10:23:06 PM EST
I don't agree with all of it... I think he misunderstands some of the Keynesian statements about stimulus... or at least doesn't take the question of a slump in demand seriously...

However, I found this part very interesting:

Our Next Economic Plague: Japan Disease_English_Caixin

An economy ages in many ways. The most common are tied to the exhaustion of factors such as production-labor, capital and resources. When an economy begins to develop, labor is the abundant resource. Hence, it makes sense to develop labor-intensive industries. When labor surplus is exhausted, it makes sense to develop capital intensive industries. When capital stock is high enough, investment cannot drive growth anymore. Economists call it diminishing returns, or more of the same yields less output. This type of aging doesn't worsen. Economists say a steady state equilibrium emerges when consumption and investment are balanced just right, sort of like permanent middle age.

Moreover, youthfulness is possible for a mature economy. Through innovation, an economy can produce more with the same inputs. This so-called total factor productivity (TFP) is an elixir for a mature economy. It determines how fast a rich economy gets richer. A 1 percent TFP is considered mediocre, 2 percent is good, and 3 percent is super.

Many economists argue for freer and cheaper economic structure to stimulate innovation. But, in the Internet era, innovations rapidly disseminate around the world. It's not clear if innovation benefits can be contained in any country anymore. For example, even though the United States is more innovative than Europe, it hasn't outperformed by much. Its celebrated prosperity during the Greenspan era turned out to be an old-fashioned bubble, not a reflection of superior innovation.

Diminishing returns define the aging of an economy in relation to capital accumulation. Population aging, now a more popular concern, is a relatively new phenomenon. Merely decades ago, life expectancy was not high enough for a society to have a large population of retired people. The world is transiting from the old equilibrium of a small retirement population to the new equilibrium of the retirement population similar in size to the working population. The transition is an aging process. When the new equilibrium is reached, i.e. the ratio of retired to working populations is stable, it is an aged economy.

I think it highlights interesting questions about the assumptions at work in defining "productivity." And the point that innovation no longer stays inside national bounds suggests that it's less and less meaningful to analyse economies in isolation.

Globally, we have an oversupply of labour... but we also have lots of capital unused... What Xie's piece puts in my mind is that we may have, in the West hit the limits of "capital availability" in spurring growth.

i.e. We've passed beyond the historical moment where throwing more capital at the economy automatically generated good rates of growth...

Now that might be a temporary moment because labour is so oversupplied and the regions where demand should require industries that capital helps build are just not buying much yet...

Still... one wonders if things have not changed slowly, such that capital is much less important for productivity than before...

by Metatone (metatone [a|t] gmail (dot) com) on Wed Mar 24th, 2010 at 07:49:01 AM EST
[ Parent ]
This is a sequence deeply wedded to the neoclassical catechism:
An economy ages in many ways. The most common are tied to the exhaustion of factors such as production-labor, capital and resources. When an economy begins to develop, labor is the abundant resource. Hence, it makes sense to develop labor-intensive industries. When labor surplus is exhausted, it makes sense to develop capital intensive industries. When capital stock is high enough, investment cannot drive growth anymore.

As long as there is ongoing technological development leading to repeated waves of innovation, investment can drive growth. The model above rests heavily on a fixed technological regime to explain growth by moving in the direction of exploiting relatively abundant factors ... without having any explanation for why there would be relatively abundant factors in the first place without technological change.

And of course any functional formalization of the neoclassical catechism cannot encompass a theory of technological innovation in which new technology is being developed, since the neoclassical catechism is based upon reactions to knowledge, and technological innovation requires prior discovery of new knowledge in the face of prior ignorance. After all, without knowing at the outset what there is to be found, it is never neoclassically rational to try to push back the boundaries of ignorance.

This is one of several fundamental flaw in Rostow's Stages of Development model, briefly recapitulated in the quoted section.

Historically, the surplus labor in the economies most successful at industrialization came from a technologically progressive agriculture that freed up labor from agricultural work while increasing incomes in the agrarian sector, making it a more effective market for the output of industry.

The contrasting model of exploitation of cheap labor currently employed in a non-progressive agricultural system more often leads to the "development of underdevelopment" than in the direction of active industrialization ... the difference between Brazil's South and Brazil's Northeast, or between India's Northwest and India's South, or between the US Great Lakes and Midwest and the US Southeast.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Wed Mar 24th, 2010 at 10:41:26 AM EST
[ Parent ]
Good points.

So, in effect, the failure to spread increasing productivity in agriculture to deep rural India and China is part of the problem...?

by Metatone (metatone [a|t] gmail (dot) com) on Wed Mar 24th, 2010 at 10:50:12 AM EST
[ Parent ]
Quite ... maintaining existing income flows to vested interests has a higher priority than what is needed for agrarian growth.

Of course, those conditions when they happen are not necessarily deliberately planned that way.

Consider the agrarian revolution in Japan under the Shogunate, as a side effect of the system of having the Daimyo live in the capital every second year (to keep an eye on them) pushing them to encourage commercial and cash crop agricultural activity in order to have cash incomes to tax as opposed to the traditional payment of land tax in weight of rice.

Or the system of allowing coffee farmers on the large estates to grow crops alongside the coffee to avoid having to paying them subsistence, which laid the fuondation for much of Sao Paulo's progressive small farm sector.


I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Wed Mar 24th, 2010 at 05:52:07 PM EST
[ Parent ]
In Japan, the other key point to the flowering of peasant agricultural productivity was the fixed land tax rate for most of the Edo period.  As changing the taxes was too politically difficult for all but the first few shoguns, peasants on the Shogun's land were able to keep most any productivity improvements they made, be they from crop diversification to fertilizer to new rotations.  Over time, this led to

  1. increasing integration of the countryside into national networks of production and distribution, as peasants sold their leftover stuff to wholesale distributors in Osaka and Edo.

  2. a rural consumer revolution, as the money was used to buy stuff, replacing plain material want/crude homemade goods with superior product.

  3. the growth of rural industries, as farm families looked to plug their labor supply into these new market systems through handicraft production in a variety of traditional industries.

All this resulted in Japan having a rather highly developed capitalist economy over much of its territory well before the country was opened to the West.  Already having such an economy made it possible for Japan to adapt to the global markets of the 19th century.
by Zwackus on Fri Mar 26th, 2010 at 02:35:22 AM EST
[ Parent ]
Still... one wonders if things have not changed slowly, such that capital is much less important for productivity than before...

Given that the world is awash in capital and the strain that is being put on the economy in order to extract from it a "suitable" rate of return on capital, this might well be true.

The brainless should not be in banking -- Willem Buiter

by Migeru (migeru at eurotrib dot com) on Wed Mar 24th, 2010 at 10:57:41 AM EST
[ Parent ]
Awash in capital or awash in financial assets?

- Jake

Friends come and go. Enemies accumulate.

by JakeS (JangoSierra 'at' gmail 'dot' com) on Wed Mar 24th, 2010 at 11:12:58 AM EST
[ Parent ]
Capital in the financial sense.

Assets are still overcapitalised as we know since asset prices have dropped but deleveraging hasn't been allowed to run its course because too many well-connected people and institutions would go bankrupt.

The brainless should not be in banking -- Willem Buiter

by Migeru (migeru at eurotrib dot com) on Wed Mar 24th, 2010 at 11:19:58 AM EST
[ Parent ]
The world is awash in claims on productivity, some of which are more plausible than others, but which sum to a ridiculous figure that has no basis in physical or social reality.

As Chris keeps saying - more or less - capital is not a substance, or even a number. Its value derives entirely from its ability to claim the productivity of others, and/or to monopolise resources.

If the productivity or resources don't exist, the book value is meaningless.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Wed Mar 24th, 2010 at 11:36:00 AM EST
[ Parent ]
...but it has real consequences because there are debt contracts tied to inflated valuations from the time the contracts were made, and denominated in money units. The serious people don't want to
  1. allow defaults on any of the debt
  2. allow inflation of the money units
so here we are.

The brainless should not be in banking -- Willem Buiter
by Migeru (migeru at eurotrib dot com) on Wed Mar 24th, 2010 at 12:27:03 PM EST
[ Parent ]
Being awash in promises from one party to another party to pay money under certain condition ... does that net out to a positive or a negative?

I'd not say the economy is awash in real capital overall, though it clearly has too much capital equipment in some sectors and demand-destruction policies leave some needed capital nonetheless unemployed.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Wed Mar 24th, 2010 at 05:55:57 PM EST
[ Parent ]
Globally, we have an oversupply of labour... but we also have lots of capital unused... What Xie's piece puts in my mind is that we may have, in the West hit the limits of "capital availability" in spurring growth.

This makes no distinction as to the ends for which capital is employed, or, in a utopia, is allowed to be employed. It assumes that capital is employed for productive purposes and then tries to explain why that doesn't always work. This is what the holders of the capital would have us think.

But in the USA and, now it seems, in Japan after 1990 capital was deployed to extract the maximum rent possible and if this resulted in cannibalization of the domestic economy that was just another "innovation" so long as the returns to the FIRE sector looked good, as with "off-shoring" of manufacturing operations. For the holders of capital the loss of domestic employment is a necessary consequence. If they can't externalize that consequence they will minimize it.

Mainstream Economics doesn't seem to really concern itself much with debt levels but the ratio of total debt to GDP. Had we shown concern with the debt to GDP ratio instead of wage inflation we would have been alerted to the problems of the asset bubbles and could have prevented them, we would have a more equal wealth distribution and larger consumer demand.

Goodhart's Law states that whenever an economic indicator is made the target for setting policy it loses the information content that would qualify it to play such a role. (Note 16, p.4 of Edward Chancellor's excellent White Paper, China's Red Flags, via Zero Hedge.) We have certainly succeeded in controlling wage inflation--to our detriment and the dropping of M3, the revisions to the CPI and all of the various measures of unemployment in the USA would seem to support Goodhart. We need better metrics AND better application of those metrics.

"It is not necessary to have hope in order to persevere."

by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Wed Mar 24th, 2010 at 01:37:07 PM EST
[ Parent ]
The dark side of the savings glut - Investors Chronicle

There is, however, an important aspect of the story of the savings glut that often gets overlooked: if there is an excess supply of savings, what is the excess relative to?

The answer is: a demand for capital from companies. The flip side of the excess supply of savings is a deficiency of capital investment. As Federal Reserve governor Ben Bernanke said in a famous speech which popularised the notion of a savings glut, there has been a "dearth of domestic investment opportunities" in developed economies.

One sign of this dearth is that the share of capital spending in UK GDP has been trending downwards for years. Even before the recession began, business investment accounted for just 10 per cent of GDP, its lowest proportion since records began in the 1960s; it's now 8.5 per cent.

Granted, this has been in part a reflection of the fact that prices of capital goods - such as software - have fallen relative to prices generally. But it's unclear how relevant this is. It merely raises the question: why didn't companies respond to falling capital goods prices by spending even more?

Now, you might object that it makes no sense to speak of a lack of investment opportunities because profit rates have been high for years; in the second quarter of last year, non-oil, non-financial companies' net return on capital was 10.8 per cent - so, even in the worst recession since the 1930s, profit rates were higher than at any time in the 1970s or early 80s.

This objection, however, overlooks an important distinction - between existing investments and potential new ones. It's quite possible for capital in place to earn big returns while prospective new projects are expected to have low returns. There's no reason to suppose that what Keynes called the marginal efficiency of capital is close to the average profitability of existing capital; the idea that macroeconomic entities are stable, identifiable and smoothly differentiable is a pedagogic device, not (necessarily) an empirical reality.

by Metatone (metatone [a|t] gmail (dot) com) on Thu Mar 25th, 2010 at 05:50:28 PM EST
[ Parent ]
"The dark side of the savings glut" in truth is who has the savings. Were savings distributed more equally it is possible that demand would be higher and there might be more investment opportunities. It would be even better were income more equally distributed, but the one eventually follows the other. And the point about new investment opportunities not having nearly the return of existing is certainly understandable when existing enterprises can largely be characterized as "rent seeking monopolies."

"It is not necessary to have hope in order to persevere."
by ARGeezer (ARGeezer a in a circle eurotrib daught com) on Thu Mar 25th, 2010 at 08:53:32 PM EST
[ Parent ]
The flip side of the excess supply of savings is a deficiency of capital investment. As Federal Reserve governor Ben Bernanke said in a famous speech which popularised the notion of a savings glut, there has been a "dearth of domestic investment opportunities" in developed economies.

All the savings are mortgage loans, not investments. As long as the economy circles around real estate market and other resources, the economy gets worse. But that's the way "the middle class" wants it, that is what they get. Rising house prices and wealth from rental value. Not from wealth creation, labour.

by kjr63 on Fri Mar 26th, 2010 at 04:41:40 AM EST
[ Parent ]
IMO these banking issues, derivatives etc. are more or less not the cause but the symptoms of the problems. We don't have a "market economy", but an economy of different kind of monopoly rights and structures. The money does not circulate in real economy, but in financial assets. It's a kind of georgist-marxist dystopia, where year after year it becomes more difficult to finance a house, public services and new enterprises (investment) with earnings from labour. Japan had a housing bubble, so the real economy shrunk and debtors/creditors got into trouble. When the economy was loaned up and could not take more debt, banks created some kind of "derivatives" to speculate then on existing loans. I don't see how these derivatives could be the problem. They are not at all real economy and have no cost effects on production of wealth.
by kjr63 on Wed Mar 24th, 2010 at 06:10:36 AM EST
When the economy was loaned up and could not take more debt, banks created some kind of "derivatives" to speculate then on existing loans. I don't see how these derivatives could be the problem. They are not at all real economy and have no cost effects on production of wealth.

Derivatives are credit instruments, just like loans. The fact that they may not be accounted for as debt doesn't mean thay are not. And the problem is not with the real economy but with the monetary economy, "real" economic stagnation being a side-effect of monetary stagnation due to decreasing profits.

The brainless should not be in banking -- Willem Buiter

by Migeru (migeru at eurotrib dot com) on Wed Mar 24th, 2010 at 06:23:11 AM EST
[ Parent ]
.."real" economic stagnation being a side-effect of monetary stagnation due to decreasing profits.

No.. Monetary stagnation is a side effect of increasing "real" economic stagnation due to increasing profits due to asset price inflation..

by kjr63 on Wed Mar 24th, 2010 at 07:59:17 AM EST
[ Parent ]
When asset price inflation stops, the business class pushes the brake of the real economy in order to try to stave off the decline in asset prices.

The brainless should not be in banking -- Willem Buiter
by Migeru (migeru at eurotrib dot com) on Wed Mar 24th, 2010 at 08:16:25 AM EST
[ Parent ]
In the recent quarter in the US, growth in profits exceeded growth in GDP ... IOW, there was growing GDP at the same time as declining wage and salary incomes.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.
by BruceMcF (agila61 at netscape dot net) on Wed Mar 24th, 2010 at 10:42:37 AM EST
[ Parent ]
Wealth capture is not wealth creation.

The brainless should not be in banking -- Willem Buiter
by Migeru (migeru at eurotrib dot com) on Wed Mar 24th, 2010 at 10:53:32 AM EST
[ Parent ]
But the wealth capture was slowed or halted when the financial crisis put the brakes on the real economy, only to be restored as the real economy started going again.

After all, labor markets are too slack at the moment for wealth capture to require putting the brakes on the real economy.

I've been accused of being a Marxist, yet while Harpo's my favourite, it's Groucho I'm always quoting. Odd, that.

by BruceMcF (agila61 at netscape dot net) on Thu Mar 25th, 2010 at 12:06:38 AM EST
[ Parent ]
Not only business class, but also so the called "labour parties." "The middle class" is the worst of them all.
by kjr63 on Wed Mar 24th, 2010 at 01:26:19 PM EST
[ Parent ]
Re: "Turbo-capitalism"

He may not have coined it, but that term was used in a book of the same name by Edward Luttwak.  As something of a paleo-com, he didn't approve of it, but didn't think anything should (or could) be done about it, except let it run its course.

by FoolsErrand on Wed Mar 24th, 2010 at 10:17:09 PM EST
Thank you for the story. Those were tough years for everyone. I don't have much to offer but a collection of observations:

  1. American emphasis on the Wall Street did begin in 1983 when Reagan (or Treasury Secretary Regan) pushed for a "Yen/$" commission to address the currency.  In fact, the commission exclusively worked for opening up financial services markets to the Wall Street.

  2. After the bubble, Japanese banks began liquidating not just property-related loans, but business loans as well. Small businesses suffered, and their owners had their homes seized, because they had been forced by the banks to submit a personal guarantee of all business loans. Amazingly, the Japanese media praised the banks' debt collection as a necessary step and achievement of social good of some kind.

  3. That experience raised, semi-consciously, a serious fairness issue, which neither the media or pundits dared to address. Rescue big banks with the government money so that they shut down small businesses? That's good for the entire economy?  Am I part of the "entire economy"?... In my view, this unspoken resentment still permeates through the Japanese society.

  4. The BOJ did undertake implicit inflation targeting under the zero interest rate policy. It did work, but not the way Paul Krugman anticipated. The policy helped to rekindle the commercial property bubble during the 2000s. The irony is, of course, the bubble burst again.


I will become a patissier, God willing.
by tuasfait on Thu Mar 25th, 2010 at 09:34:21 AM EST
BBooks - thanks for sharing these memories.

Too many things to respond to at once, but after all that passed, it is amazing  that Americans did their eery best to imitate Japan's mistakes. When I think of NINJA loans, or the laughable cov-lite terms private equity buyers could obtain  with but a veneer of equity - spreads that themselves were dwarfed by the routine fees swallowed by the manager, I am reminded of the heady days on the Tokyo bourse with their absurdity.

But first, I think it is important for people to remember that the Japanese bubble was squarely a Japanese affair. The credit extended was Japanese. The borrowers were primarily Japanese. The punters and specs were all Japanese. The gaijin were peripheral. I'd argue their presence didn't matter. Their profits were rounding errors, and for the most part were just opportunistically gaming ludicrous structures that existed [and persisted!!] in a way they only could in Japan." Yes, they helped distribute warrant bonds, but didn't underwrite a single issue, and rather than goose the market further, the warrants served to allow foreign portfolio managers to reduce their risk to an overvalued market. And when the arbs did the same, it was the Japanese domestics who bought the cash equity sold short as hedges

Second, "We" did dance on their heads imploring them to goose domestic demand following our "bonnie situation" caused by our little 1987 experiment with portfolio insurance, and they relented, against, I understand, the prevailing BoJ sentiment, probably for all the reasons you cited. But perhap there is another way to see it. Low rates were the proverbial icing on the cake. Things were percolating awesomely, anyway, before the arm twisting on rates. When free money actually arrived in Japan, the combination with prior frothy momentum meant a further orgy of capex (why not - capital is "free" with bonds+warrants), construction, and speculation. Like the hawkers to cash-strapped municipalities of strategies leveraging CDOs to fund their deficits because they could (however badly it ended), japanese companies borrowed free money because they could, mis-allocating it in the most absurd ways, adding unneeded capacity, launching new subsidiaries to vertically integrate in crowded markets, building unnecessary towers, yet more real estate, golf-courses, hotels, expanding cross-holdings,  just punting the market and bell-ringing forays into overvalued trophies in UK & US. NOT so much like in the US where a larger share was privately appropriated via fraud (though this existed too) but misallocation out of sheer mis-extrapolation of what made financial sense with rates near the zero boundary. And these are the costliest mistakes - Mistakes that make you pay 75 cents on the dollar too-much for a property.  Mistakes you never recover from, and burnish indelible lessons and fear upon one's grey matter. And all this stretched the boundaries of the normal and sustainable economic activity and then went way beyond. It wasn't artificial - it was "real" in the sense that it happened. But it was a rare occurrence in large monte carlo simulation. The confluence of things that bred the scale of the activity were numerous and varied,  both internal and external, financial, and behavioural, but a fluke, and not likely to be reproduced in japan ever again. Ever. The bubble was the confluence feeding back recursively as happens in bubbles, until "The Wafer-Thin Mint" moment.  But perhaps the mistake of observers  is to compare subsequent economic activity against an impossibly-steroidal, benchmark, one against which they will always be disappointed. To wonder why they didn't return to robust growth (in comparison to The Top, might be turned on its head to ask, why, following the POP!, output didn't quickly shrink 15 or 20 percent??  They were gripped by a maniacal overconfidence that took hold of them: they built, worked, invested, and relatively-speaking even consumed in a way that crammed a decade of growth into a much shorter time-frame, coinciding with the peak of the demographic bulge. It satiated demands, seemingly once and for all and scarred them in process, before they went headlong over the the demographic cliff, from which there appears little imminent prospect of return.

by NihonCassandra (rusol1@yahoo.com) on Thu Mar 25th, 2010 at 04:41:23 PM EST
Great post NC

"The future is already here -- it's just not very evenly distributed" William Gibson
by ChrisCook (cojockathotmaildotcom) on Thu Mar 25th, 2010 at 07:48:34 PM EST
[ Parent ]


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