Newsweek Aug 25th 2010
http://www.thedailybeast.com/newsweek/2010/08/25/japan-not-greece-is-the-real-economic-worry.html
The Greeks have got a lot to answer for. As well as roiling the markets and torpedoing the euro, they have inflicted serious damage on the debate about the global crisis and its remedies.
Sovereign debt crises used to happen in what used to be called the third world. The tequila crisis, the Asian contagion – the very names made them seem exotic and remote. Now after the Greek meltdown a sangria crisis, a chianti crisis, even a Bud sixpack crisis have a horrible plausibility.
If debt is the problem, then surely the solution is to borrow less, not more. That view is in the ascendancy amongst commentators, politicians anxious to avert financial disaster on their watch, and ordinary citizens rattled by what the future holds. And not without cause. Government debt in the West has soared to levels that would have been considered outrageous until recently,
Strangely enough, though, there is one constituency that seems totally relaxed. That is the bond market itself. Far from going Greek, government bonds have been super-strong this summer, to the extent that ten year government yields have dropped below 3% – not just in sober-sided countries like Germany, Holland, and Sweden, but in the spendthrift UK and US too.
The vigilantes of the bond market are supposed to keep free-spending politicians in line. They were once so feared that Clinton advisor James Carville fantasized about being re-incarnated as the bond market. Now they appear to have hung up their guns and left town. The more government I.O.U.s that hit the market, the more love they get from investors.
What is happening is this. Across the developed world, traumatized consumers are spending less and saving more; cautious companies are earning more and investing less; nobody is borrowing.
The result is a tsunami of private sector money heading for the obvious safety-first destination, government bonds. Government finances may be disastrously out-of -whack by previous standards, but in our crisis-shocked world those standards no longer apply. Out-of-whack private savings balance out-of-whack government deficits.
As for sustainability, look at Japan. Yields on Japanese government bonds fell below 3% in 1996. A bubble? Many smart people thought so, but two years later Japan slid into outright deflation, where it has remained ever since. With the government debt-to-GDP ratio north of 100%, Japanese bonds currently yield less than 1%.
The reality is that the Greece was always a special case. It is a country that does not issue its own currency and the quality of its credit depends on the indulgence of other Europeans – now in short supply. The only way it can restore lost competitiveness is by exiting the euro or inflicting a savage squeeze on its own citizens. Neither look likely, Double digit bond yields reflect the real possibility of a “can’t pay, won’t pay” denouement.
Elsewhere the deflationary undertow that took down Japan is gathering strength. It would probably take only one more recession to tip the US into outright deflation too. We haven’t got there there yet and maybe we can change course in time, but the message of the markets is clear. Turning Japanese is a much bigger risk than going Greek.
Would that be such a bad outcome? After all hasn’t Japan survived its lost decades in reasonable shape? Outwardly that may seem so, but in fact Japan has paid a high price – albeit slowly and steadily, rather than in one fell swoop. Twenty years on from 1989 Japanese GDP is relatively lower than US GDP was twenty years on from 1929.
Inevitably the loss of geopolitical status has been significant, impairing Japan’s ability to tackle China’s strategic challenge. The Japan that was “Number One,” celebrated for its unstoppable industrial strategy, super-aggressive corporate managers and high-rolling consumers, has faded from memory.
Less obvious is the psychological deflation – the loss of dynamism, self-confidence and faith in the future which has made government bonds with yields at vanishing point the only game in town.
Inequality is on the rise. Since the start of the century the number of Japanese households earning less than three million yen has risen by 50%. Not that high earners are in great shape either. The number earning more than eight million yen has fallen by 20%. Tough times were highlighted by recent bizarre stories of Japanese families claiming benefits for pensioners who had been dead for years – including one who was found mummified in the back room with newspapers from the 1970s.
Deflation is like a quicksand. It’s easy to slide in, but devilishly hard to pull free. The best course of action is to stay well clear in the first place. That means ignoring Greece, and using every possible tool , monetary and fiscal and regulatory, to avoid a slow-mo, strength-sapping sake crisis.