Japan’s Slide Into Crisis

The yen is weakening, and JGB yields are rising. These problems are coming to the attention of a widening financial audience. This post looks at the consequences.

This week, the rise in JGB yields and the decline of the yen accelerated (note: the JPY chart is on an inverted scale). There is no doubt that there is a crisis developing.

Ever since the Fed raised interest rates, the Bank of Japan’s monetary policies have become exposed as being out on a limb. The BOJ has been pursuing QE since the year 2000, and in the process has accumulated nearly 60% of its own government’s debt. Relative to the size of the economy, this debt at over 260% of GDP is the highest of the world’s advanced nations. Fauci’s First Fr... McCarthy, Ken Buy New $19.95 (as of 06:07 UTC - Details)

Until now, these policies failed to fully disrupt the yen’s domestic purchasing power, due to the propensity of Japan’s population to save and the long-term trend of the dollar’s declining interest rates. But US interest rates are no longer declining and with the US Government in a developing debt trap the pressure on the Bank of Japan to raise rates firmly into positive territory is increasing.

Japan’s propensity to save is still there. It means that if the BOJ raises rates, savings will increase even further at the cost of consumption, throwing the economy into statistical recession. This is of course a Keynesian analysis whose errors are now being exposed. That said, Japan has been running on Keynesian hot air since the 1990s asset bubble imploded: that’s thirty years of denying the necessary creative destruction needed for an economy to regenerate.

From higher interest rates, there are some important consequences that flow from Japan’s Keynesianism:

·      Already at over 260%, government debt to GDP will soar not only due to continued budget deficits currently exceeding 5% and growing, but importantly because GDP will be contracting due to the savings paradox. It will not be long before this debt to GDP figure increases to over 300%, undermining the fiat yen’s credibility even if interest rates are permitted to rise.

·      The BOJ’s balance sheet equity of only Y100 million is already wiped out over hundreds-of-thousand times by bond losses on its QE holdings. These losses will now accelerate astronomically. How long can this bankrupt situation be allowed by markets to persist?

·      Going by Japan’s global systemically important banks, her commercial banking system is probably the most highly leveraged in the world. Like the Eurozone G-SIBs, this is because negative interest policies compressed credit margins and the only way in which banks could maintain bottom line profits was to increase their ratios of balance sheet assets to equity capital. Not only do higher interest rates lead to massive losses as the cost of funding rises above interest returns on assets (just like last year’s regional bank failures in the US), but non-performing loans will impact balance sheets as well.

·      With many years of suppressed interest rates leading to a decade of negative rates, Japanese local governments and corporates have become debt zombies. Positive interest rates will expose the errors of not addressing the imbalances that arose from the 1990s debt bubble and its subsequent collapse. The Great Austrian Eco... Holcombe, Randall G Best Price: $8.94 Buy New $12.90 (as of 10:37 UTC - Details)

As the interest rate crisis facing Japan’s policy makers unfolds, there can be no doubt that Japan’s politicians, true to their Keynesian roots, will double down on trying to prevent deflation. Budget deficits will soar, not just as the balance between revenue and welfare spending tips further into the red, but because of political determination to keep stimulating a rapidly disintegrating economy.

The problems facing Japan are an extreme example of those facing other G7 nations. There is no salvation in higher interest rates either, only economic and monetary collapse. The combination of rising government debt, higher compounding interest costs and an entire economy wrongfooted by rising interest rates are a lethal mix. So what does Mrs Watanabe do about it? Well, getting out of fiat yen into real legal money, which is gold, could be seen as an increasing option. It is favoured by the East Asian masses, and probably by the ordinary Japanese people when they begin to realise what’s happening to their savings.

It will be interesting to see how long it takes for domestic users of Japan’s yen to wake up to the increasing certainty that the fiat yen is in the early stages of outright collapse.

Reprinted with permission from MacleodFinance Substack.