re: Kessler in WSJ: Watch out when interest rates rise.

quote:

---

Watch the FFR. When it begins rising the economy will improve.

---

That's like saying 'Watch a thermometer. When it starts rising the temperature will start getting warmer."

...

#5. But--with the current ephemeral Shinzo Abe episode excepted--why can't they summon the political will? I would say it's mostly a combination of (A) the electorate's age demographics, and (B) the East Asian culture over there that stresses "relationship" banking rather than a more arms-length Anglo-Saxon approach.

With respect to (A), in some sense the Japanese electorate can be viewed as having rationally adopted a voting preference for economic suicide because what it really desires is strong purchasing power for the pension income of older persons. In other words, the old fogeys are just keeping the unsustainable game going for as long as they can, because whenever it finally hits with full force, they'll all be dead and their children will have to clean up the mess, which is just viewed as somebody else's problem. That's a crude and cynical way to put things of course, but isn't that effectively what Japan did, and what the U.S. appears to be choosing to do now? (See, for example, the recent comments of legendary hedge fund manager Stan Druckenmiller in Bloomberg: " Druckenmiller Sees Storm Worse Than ’08 as Seniors Steal.")

With respect to (B), this is what I have always viewed as the key difference between Japan and the U.S., citing it as the reason why I thought that what occurred in Japan with its two lost decades could never happen in America. The South Koreans have their chaebol system of business conglomerates, and the Japanese have their keiretsu system of business conglomerates. (See also Italy's spaghetti-like system of banking cross-ownership relationships, but I really wouldn't even know how to begin to describe all that.) Effectively, what the Japanese have is a system of managed capitalism, which was once lauded as a bold "Third Way" between the clashing rocks of ideological socialism and free market capitalism, but which is now widely seen as the authoritarian crony capitalist dead end that it really is.

Now it may very well be that such state-managed capitalist models are optimal for certain stages and periods of economic development, but as far as being the optimal system for managing an advanced economy, it is woefully inadequate and dangerously unstable.

The main problem is the phenomenon known as zombie capitalism, when banks are politically directed to lend to zombie industrial corporations, such that new loans are provided at absurdly cheap rates in order to create an accounting trick by which older loans do not go into default. The cycle seems like it can continue almost indefinitely, but at some point the game has to end--both for Japan and China by the way, which will soon face its own economic reckoning.

In the U.S. with TARP, we faced something where we temporarily had zombie banks, but that's a whole lot better than having zombie corporations to which those banks are lending, as was the case with Japan, and is the case with China today (which is part of the reason why I love those guys at Muddy Waters LLC so damn much).

So don't get me wrong here--I'm not saying that the U.S. will ever get as bad as Japan, either demographically or economically, but hot damn, if America isn't falling straight into the same ZIRP trap that Japan fell into. It won't be as bad as Japan because the U.S. has a much more arms-length financial system, but make no mistake about it, the U.S. has moved a huge distance toward the Japanese model over the past several years.

... and finally, there is...

#6. Why would Japan pursuing a strong yen + ZIRP policy be any different than the U.S. pursuing a strong dollar + ZIRP policy? I mean, the dynamics for why this is occurring may be somewhat different in the two cases--with the yen being supported a good bit by the carry trade (as I posted here) while the dollar is being supported a good bit by the international "fear" trade and continuing global economic recession--but in terms of the peculiar monetary situation we are witnessing, the end result looks pretty damn similar, does it not?

Both produce low inflation. Both load up more state debt, going ever higher toward historically dangerous levels. Both seek to keep an unsustainable economic structure going for a few more decades for the sake of propping up politically important entitlements for aging demographics. Both result in the typically symptomatic poor growth performance that comes with the moral and systemic economic rot that defines state-managed capitalism. What's the difference then?

The way I see it, the primary differences are the culturally ingrained economic business and lending practices, along with the resulting legal structure that goes with that, and the differences in population growth and openness to free trade and immigration.

Lack of natural resources no doubt affects the situation, but in terms of relative importance, I just don't see it as being very high on the list in terms of explaining what differentiates Japanese ZIRP from American ZIRP.

P.S. -- I remember looking for the oldest merchant bank in Japan for a TD thread once, and not being able to find it. I just found it under the Mitsui keiretsu, which during the Edo/Tokugawa Period (1603 - 1868) established a money exchange in 1683, even though a formally private banking company was not officially formed until 1876.

P.P.S. -- The Dutch arrived in Japan and introduced firearms in 1543, and Francis Xavier was a Jesuit missionary there from 1547 to 1551, but after Portuguese-influenced Catholic Japanese peasants participated in the Shimabara Rebellion of 1637-1638 (which ended at the Dutch-aided siege of Hara Castle), Christianity was persecuted, resulting in Japan expelling Portuguese traders (but not their pasta!), becoming more insular, and having virtually no Christian influence on its culture from about the 1650s to the 1850s.

From pp. 30-32 of Francois Gipouloux's 2011 book, " Gateways to Globalization: Asia's International Trading and Finance Centers":

quote:

---

During the Edo period, Osaka was the main economic center of Japan. The fundamental economic structure of the Tokugawa government was organized on the rice standard, a taxation system based on the rice productivity of an area. Under this system, all tax income from farmers was paid in actual rice. Consequently, the Tokugawa government and Han (local governments of a feudal clan) established official rice warehouses to cash their rice-based tax income in Osaka. From the middle of the 16th century, Osaka developed into a huge commercial hub in Japan, and consequently, major north or south bound trading ships called at Osaka from all over the country. As a result of this economic infrastructure, the rice exchange system came into being and boosted the commodity and financial business in Osaka. The Tokugawa government and Han had to repatriate the funds or necessary commodities to Edo or their local territory, and then exchange houses came into existence, especially in Osaka and Edo.

... Therefore, the major financial purveyors to the Tokugawa government (termed the "Ten Majors", or "Jyunin-Ryogae") were mainly Osaka merchants. They diversified their businesses from rice trading into finance, and were appointed to the position of the "Ten Majors" by the Osaka City Magistrate. With this authorization, the "Ten Majors" established a guild ("Kabu-Nakama") and handled government related remittances, lending, money market quotations and so on. Edo became a major economic center in eastern Japan, but until the Meiji period it has only a passive role secondary to Osaka.

After the Meiji restoration in 1868, Edo was renamed "Tokyo" and become the only capital city of Japan. Under the new government and new economic framework, Japan modernized its domestic financial system. The new government introduced a modern currency system (the "New Currency Ordinance" of 1871), a modern banking system (the "National Banking Ordinance" of 1872), land tax reform (1873), a stock exchange (the Tokyo Stock Exchange and the Osaka Stock Exchange were established in 1878) and a central bank (the Bank of Japan was established in 1882 and monopolized the issue of banknotes).

These reforms encouraged the formation of modern banks in Tokyo because the close relationship with central government was an important factor to running a large-scale financial business under the nation-state system. ... Mitsui diversified their business under the name of "Echigoya" (Echigoya was the biggest dealer in kimono fabric in Edo) from the Edo period and they had already opened a financial division ("Echigoya-Mitsui Exchange House") in 1683. This exchange house handled official funds from the Tokugawa government and the new Meiji government, and issued the first yen currency note in 1871. ...

---

Hmmm, Mitsui Hachirobe-Takatoshi's 17th century financial business seems not to have been as sophisticated as I had remembered.



EDIT: See also this brief description of " The Enterprising Spirit of Mitsui Hachirobe-Takatoshi."

Bumping for a response later today. Was too busy this weekend to give the time needed for a response.

quote:

---

Commodore Perry steamed

---

Ah shite, good catch.

quote:

---

In any case, if Chairman Bernanke is to be believed there won't be any significant rate increase until unemployment drops to 6.5%.

---

Russian that may come sooner than you think. I am of an age and most of my friends are retiring early because they cannot keep up the pace of the work load being thrust on salaried employees.

My son said that his company is hiring in droves because of older workers retiring. When you consider the numbers of people on disability being excluded from work force numbers, then we could reach 6.5% sooner than anyone expects. The number won't have anything to do with an economy firing on all cylinders, but more to demographics and workplace conditions.

quote:

---

How do you weaken the yen?
- Print money
- Lower interest rates or keep them at 0
This is all ZIRP is.

---

And how much has the yen weakened since 1996?

Your argument is theoretically plausible for hypothetical Country X, but it has nothing to do with the facts regarding Japan.

If Japan has been pursuing ZIRP in order to weaken its currency for exports, then I think we can say without much hesitation that ZIRP failed miserably in this case, which is my whole point, but I'll state it again--ZIRP is insufficient to weaken the currency. To repeat, I am not arguing that ZIRP is bad because it's weakening the dollar. I am arguing that ZIRP is bad because of things totally unrelated to the value of the dollar, and that moreover, that it may not weaken the dollar quick enough to allow us to escape in time. (See Japan for Exhibit A of a country that can't seem to ween itself off the ZIRP drug habit.)

Admittedly, I'm thinking mainly of consumer prices rather than currency exchange rates, because I'm more focused on the U.S. than Japan, but the same general principle applies.

Besides, all the import and export stuff is just short-term Keynesian style manipulations that should have no long term effect. You get cheaper energy and expensive prices for your exports if you go strong currency, and you get expensive energy and cheaper prices for your exports if you go weak currency. In terms of real economic growth, it should all cancel out provided that volatility is disrupting supply chains.

That's why all the domestic legal-cultural stuff and domestic consumer price pressures are so much more important than all the export-import stuff ... even for Japan.

That's why I made the argument for why there are certain political constituencies in Japan, due to its terrible demographics, who are essentially lobbying for policies that keep the yen strong, even when this is killing the country.

You seem to be arguing the opposite--that somehow Japan stuck with ZIRP over the last two decades as a means for pursuing a weak yen policy. Regarding that hypothesis, I just don't think the facts bear that out.

quote:

---

You seem to be arguing the opposite--that somehow Japan stuck with ZIRP over the last two decades as a means for pursuing a weak yen policy. Regarding that hypothesis, I just don't think the facts bear that out

---

Even though the name kind of insinuates that ZIRP only refers to interest rates, that is not the case at all. Japan has kept zero interest over this time but the printing mechanism has not been there, specifically for this reason you stated here:

quote:

---

That's why I made the argument for why there are certain political constituencies in Japan, due to its terrible demographics, who are essentially lobbying for policies that keep the yen strong, even when this is killing the country.

---

It's not that ZIRP hasn't worked for them, it's that they haven't done enough of the second portion, the stronger portion, of ZIRP that is so vitally important, print while interest rates are at zero. When you raise rates and print they will essentially cancel each other's effects out, certeris paribus. It's not that they haven't been doing ZIRP, they've just been doing a shitty job. Essentially they did the same thing we did in Afghanistan in the 80's, fricked up the end game. You can't have all these policies that stress lenders then stress borrowers as well from conservative printing policies, that's not having your cake and shitting on it too. If you're going in with the pre-existing conditions that Japan had, you better fricking go all in. That was at the heart of Bernanke's speech in '03 with his paper on Japan. I firmly believe he was right then with Japan and he's right now with the US. He was even asked in a press conference about how his '03 Japan paper kind of contradicted what he was doing today, which he answered "Our conditions are different that Japan's, and I'm also a little more sympathetic to central bankers than I was 7 years ago".

His allusions in that answer were to the fact of needing to spur exports in the first portion and (partially) the political influences over central bankers in the second, which you have alluded to. The main conclusion I have is that their domestic conditions forced them into this policy after their enormous assset bubble burst, and the uneffectiveness of it isn't because they went into the policy, they just did a really shitty job of going through with it. The beautiful part of it is here, now Shinzo has made it very clear they are reaching 2% inflation no matter what. We will see very quickly if they are doomed in ZIRP world no matter how aggressive their policy is.

quote:

---

This is just what I want. This is why I advocate "crazy" ideas like having the Treasury department cut taxes and make up the difference by having the federal government print money to itself. I'd like to think Bernanke is on the ball here, but if he were really avoiding the Japanese trap by going "all in" and doing more printing, then shouldn't we have expected more inflation to have materialized by now? Just saying.
I mean, asset prices and employment figures had more or less bottomed in the winter of '09-'10, and yet here we are, three years later, with ever more ZIRP and printing, inflated asset prices, and yet no economic traction or CPI inflation. It's worrying.
I keep hoping that we see some consumer price inflation in the U.S. (hence the inflation watch thread), so we can get off ZIRP sooner rather than later

---

The Federal Reserve isn't the federal government, did you mean the Fed make up the difference? If so, I mean if we cut taxes we're already there.

quote:

---

I'm skeptical of the ability of the Fed to "print" very much (at least in a meaningful way that significantly affects consumer price levels) that doesn't rely on interest rate or reserve ratio policy. Sure, the Fed can buy a bunch of MBS, but that just seems to inflate assets without having much of an effect on CPI or employment.

---

I disagree that we haven't seen economic traction, we're in a better place than '09-'12. From a labor standpoint we haven't come back but I've stated many times that the unemployment issue is structural due to our current education system. In terms of CPI, you have to understand that almost all of the liquidity is in bank reserves and that the Fed can directly control all of it while it is still in the Fed system. Until banks lend you won't see price inflation, and banks won't lend until rates rise a little bit more.

I'll get more into that the next paragraph but there is one idea I'd like you to think of: What is the escape velocity for inflation. The Fed thinks about this as well as many managers, where is the sweet spot where rates are low enough to entice borrowers, high enough to entice lenders, and animal spirits are swinging up. At that point, money will enter the system and there is nothing the Fed can do at that point to point to directly control it, only indirectly through interest rates which is when the basic definition of ZIRP will end, even though remnants of ZIRP will remain in the system for likely the rest of our lives.

The process of ZIRP to spur borrowing/lending isn't just a one part process where you drop rates to zero and watch the lending happen. This is why I defended ZIRP in your thread because it's not just cut and dry 0 interest rates. If we hiked rates at these tight levels it would make '94 seem like a rosy day in the park for managers. I talk with commercial bankers pretty often and they all say that can't justify lending a 3-3.5% 30-year mortgage. The Fed knows this, which is why their communication has been more hawkish recently (another stint of Open Mouth Operations) which has worked in terms of raising rates. We will still be range bound with rates until the big player stops playing, but the big player can adjust the range. The Fed can do a lot of things to affect interest rates without changing the FFR.

quote:

---

And you can blame this on fiscal and regulatory policy all you want, and you would be right to do so, but at some point the monetary policy starts to make it harder to exit bad fiscal policy, and starts becoming a source of economic deterioration in and of itself. In fact, there's no doubt that this occurs; it's just a question of to what extent it occurs, and whether or not it's dominated by expansionary counter-effects. Then of course there's the additional issue raised by Mr. Kessler, that all of this current policy must necessarily come at a price that must in some way be paid further down the road.

---

Every policy has costs, there is no such thing as a silver bullet in a finite world where everyone wins. Just basic math, adjusting everything the same per their magnitude leaves you in the exact same situation. If we stayed in ZIRP/QE for another couple years then yes, it would deteriorate the economy a large amount. But we likely won't, the Fed will start tapering off their purchases early next year and possibly hike rates in an intermediate future past that as inflation will likely start picking up next year. I seriously doubt the Fed will ever sell any of the securities off their balance sheet, why would they? They can just let them roll off and mature over time, hence my remnants of ZIRP for our lifetime statement.

Thankfully we are in the position to have these options, while Japan does not.