first majestic silver

Mrs. Watanabe and The Barbarous Relic Signal the End of The Kozuimu Bubble

February 20, 2002

As George Bush arrives in Japan all the economic and political signals coming out of the country continue to be depressing. You can tell when a person, company or country is in trouble when it becomes the target of gallows humour. The latest one making the rounds of the markets is the question: what is the difference between Argentina and Japan? Answer: about two weeks. For the second largest economy in the world, such jokes are bad news - and for everyone not just for the Japanese.

Like a kabuki play, the signs of distress are hard for the untrained eye and visitor to Japan to see. The trains run splendidly to time, the people are immaculately dressed, the infrastructure superb and the public cleanliness put Switzerland to shame. The trained eye will note the previously non-existent but now growing homelessness; unemployment, never a problem before, growing inexorably above the US levels. The economist will note the alarming rise in the public debt to several hundred percent of GDP (including, as we must post-Enron, off balance sheet liabilities), placing it in Italy's class. He will also note the fact that the Nikkei stock index (which was 39,000 in 1989) has recently fallen below both 10,000 and the levels of the Dow Jones average for the first time in 45 years.

But in the past two weeks there have been a couple of other very insidious indicators. This week, the credit-rating agency Moody's, alarmed at the growth in the public debt has lowered Japan's credit rating two notches. It's rating is now below both Botswana and the Bahamas. This is the most incredible fall from grace; ten years ago it was the world's best credit along with the United States.

The other indicator is perhaps even more alarming. Mrs. Watanabe, the archetypal Japanese controller of the household pursestrings, is reacting to the problems of the nation's banking system by withdrawing cash and converting it to gold on a substantial scale. She has progressively lost faith in equities, real estate, insurance policies and now bank accounts and is turning to the ultimate asset that has stood the test of time through wars, revolutions and earthquakes. The trigger has been the continued fall in the value of the yen and, more importantly, the imminent withdrawal of blanket insurance from deposits on 1 April. At that point, insurance will be limited to one million yen, approximately USD 75,000 per account. It is planned to tighten the insurance further on 1 April 2003.

This sort of action is clearly not something one expects to see in a developed economy and reflects the failure of policy at the heart of Japanese government. There is a saying that when one finds oneself in a hole the first thing to do is stop digging. This, successive Japanese governments since 1990 have signally failed to observe. More than that, they are failing to set the stage to meet the greater challenges that lie ahead of an older and smaller population that does not want to see its way of life change.

The current Prime Minister, the previously unknown and tonsorially-challenged Junichiro Kozuimi, came to office last year promising to lead Japan out of its wilderness with substantial economic reforms. To accomplish this he said he would beat the special interests of the 'dinosaurs' of the Liberal Democrat Party (LDP) that have ruled Japan almost as a one party state since the early 1950s. In effect, he promised to be the Gorbachev of the LDP. The public enthusiastically endorsed his challenge to authority, although whether they would have endorsed the specifics of the policy changes he recommended is uncertain. He enjoyed approval ratings in the 70+ percent range and looked to be certain to be re-elected if he went to the populace.

But for a year he has talked reform without really doing much. Like Tony Blair, another politician who plays games with his hair, Kozuimi has been more spin than substance. In the meantime, the situation with the banks and their non- performing loans has progressively worsened and possible nationalisation of the banking system looms. Necessary it might be, but more public money into unreformed banks with the old management staying in place is definitely very unpopular with the Japanese public.

On top of that, Kozuimi-san was forced to sack his popular Foreign Minister Makiko Tanaka when a cabal of LDP dinosaurs and Foreign Ministry bureaucrats demanded her scalp over an Afghanistan aid conference being held in Tokyo. Kozuimi's popularity ratings have now plunged into the 30s and any chances of him carrying out effective reform are sharply diminished at best and, in reality, are probably gone for good.

A weak Japan is bad news for the rest of the world since it is a major source both of demand and outward investment for the Asian region. For the United States it has been the financier of its profligate current account deficit now running at almost 6 percent of GDP.

But a weak Japan is what we have and seem likely to have going forward. Whilst outsiders, particularly visiting US professors, have been free and easy with their prescriptions, there are probably no magic bullets for the country. Japan is suffering the sort of demographic squeeze never before experienced by a democratic advanced society. On present trends, and without massive immigration that the country will not tolerate, its population will almost halve from 120 to 60 million between now and 2050.

It is far from clear how a democratic country can adjust to the pain such a transition implies. Japan will be the leader amongst OECD countries to experience these phenomena. Germany, Italy and others will follow in its wake. On present trends, none have the political leadership capable of articulating and implementing a long- term vision to meet the challenges of adapting to an ageing society.

In the longer run, if Japan fails to restore growth, the public's disenchantment with the LDP will grow and it may eventually turn to non-establishment figures such as Tokyo Governor Ishikawa of the 'Japan that can say no' fame.

In any case, Japan's politicians are likely to continue to try and get out of their problems by debasing the currency to speed exports. Either way, we respect the collective wisdom of the insurance policies the many Mrs. Watanabe's out there having been purchasing recently.

In 1934 President Franklin Delano Roosevelt devalued the dollar by raising the price of gold to $35 per ounce.
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