Tuesday, April 15, 2014

The Abenomics Surprises Just Keep Coming …

by Pater Tenebrarum

A Failing Scheme

Our idea that the Nikkei writes the news remains uncontested by any contrary developments. It still does. Since its peak at 16320 points on the final trading day of 2013, the Nikkei has lost 14.7% – and so it is no wonder that the 'miracle of Abenomics' continues to get the bad press it so richly deserves.

Note that it would be deserving of bad press even if the Nikkei index had not declined, but the ups and downs of the index seem to be in control of the public view of 'Abenomics' and what the media report about it.


The Nikkei has declined by about 14.7% since its late 2013 peak. Over this period of time, doubt about 'Abenomics' has increased – click to enlarge.

The theory behind Abenomics is as hoary as it is misguided. Allegedly, Japan has been in a long lasting economic stagnation due to 'deflation' -  meaning, in this case, not a decline in the money supply (that never happened), but the occasional, barely noticeable decline in consumer prices. Note that these minuscule declines in consumer prices have occurred in what is widely acknowledged to be one the most expensive places in the world. Until it was topped by Singapore in 2014, Tokyo has been regularly taking the top spot as the world's most expensive city. The main reason why it is considered 'cheaper' nowadays is the slide in the yen's exchange rate – but that has actually made it even more expensive for the Japanese. Only, now Japanese citizens will find other cities also very expensive, as they are forced to use a cheapened yen if they want to visit them.

If printing more money and pushing prices higher are what it takes to magically 'create economic growth', one must wonder why emperor Diocletian's coin clipping scheme and John Law's Mississippi bubble failed. Why hasn't even a single one inflationary scheme that has been tried in the course of history succeeded?

The answer should be obvious: printing money cannot create real savings or capital. This does not mean that it has no economic effects, and initially, these effects often appear to be positive, as a boom is usually set into motion. Everybody feels good, as asset prices rise and economic activity seems to revive. But the boom is always built on quicksand. It creates no real wealth: scarce capital will be malinvested and ultimately consumed.

Inflation is Actually Not 'Helping' Anyone in Japan

Japan is facing a demographic problem. Its population is declining and aging rapidly. More and more people need to rely on their savings to make ends meet. Unemployment meanwhile is very low, as the active labor force is shrinking. It is not immediately obvious which problem Abenomics was supposed to 'solve'. Only one conclusion makes sense: the government is trying to reduce the burden of its own debt in an attempt to 'inflate it away'.

This means however that the inflationary push is mainly meant to act like a tax on everyone in Japan. The government might as well have raised taxes outright.  Here is a recent Bloomberg report confirming that this is exactly how it feels for Japan's citizens, although the report contains the usual canards about 'Japan's 15 years of deflation' and the alleged 'benefits' of replacing it with monetary debasement.

“Prime Minister Shinzo Abe's bid to vault Japan out of 15 years of deflation risks losing public support by spurring too much inflation too quickly as companies add extra price increases to this month's sales-tax bump.

Businesses from Suntory Beverage and Food Ltd. to beef bowl chain Yoshinoya Holdings Co. have raised costs more than the 3 percentage point levy increase. This month's inflation rate could be 3.5 percent, the fastest since 1982, according to Yoshiki Shinke, the most accurate forecaster of Japan's economy for two years running in data compiled by Bloomberg.

The challenge for Abe and the Bank of Japan is to keep the public focused on the long-term benefits of exiting deflation when wages are yet to pick up and, according to BOJ board member Sayuri Shirai, most people still see price gains as "unfavorable." Any jump in inflation that's perceived as excessive by a population more used to prices falling could worsen consumer confidence and make it harder to boost growth.

"Households are already seeing their real incomes eroding and it will get worse with faster inflation," said Taro Saito, director of economic research at NLI Research Institute, who says he's seen prices of Chinese food and coffee rising more than the sales levy. "Consumer spending will weaken and a rebound in the economy will lack strength, putting Abe in a difficult position."

(emphasis added)

What a surprise! Consumers are actually unhappy that an inflation tax has been imposed on them. As to Abe needing to “keep the public focused on the long-term benefits of exiting deflation”, one might as well say that his challenge is to keep the public believing a bald-faced lie.

Economic growth has absolutely nothing to do with rising consumer prices. In fact, mildly declining prices and the associated increase in real incomes are the hallmark of an unhampered market economy using sound money. Even the Federal Reserve was forced to admit in a 2004 study (Atkeson, Andrew and Kehoe, Patrick/Federal Reserve Bank of Minneapolis. Deflation and Depression: Is There an Empirical Link? / h/t Chris Casey ) that 'no empirical link between deflation and depression could be established'. Obviously, Ben Bernanke has never read this study, and neither have Janet Yellen or Mr. Kuroda for that matter. Here is a verbatim quote from the study:

“… the only episode in which we find evidence of a link between deflation and depression is the Great Depression (1929-34). We find virtually no evidence of such a link in any other period. … What is striking is that nearly 90% of the episodes with deflation did not have depression. In a broad historical context, beyond the Great Depression, the notion that deflation and depression are linked virtually disappears.”

(emphasis added)

Again, no-one should be surprised that in-depth empirical studies actually tend to agree with what should be clear from economic theory anyway, although one must not lose sight of the fact that empirical studies cannot serve to 'prove' or 'disprove' the correctness of a theory. In this respect, economic theory differs from the natural sciences, which allow for conducting controlled and repeatable experiments. No such experiments can be conducted in economics and every slice of economic history is highly complex and unique and co-determined by a multitude of factors. Even though the laws of economics are always operative, it is not possible to deduce them or prove or disprove them from the study of economic statistics.

From a theoretical point of view it can be shown that real economic growth is indeed possible without expanding the supply of money and that it perfectly agrees with falling prices for consumer goods. Entrepreneurial profits do not depend on the direction of consumer prices, they depend on the price spreads between inputs and outputs. As we have frequently pointed out, if this were not the case, the computer industry – indeed, the entire electronics industry – would have been in a permanent economic depression from the day it was born.

As to Japan, while its consumer price index has declined ever so slightly since  the late 1990s, prices remain about 11% above their level of 1989, the year in which Japan's mega-bubble blew out and inflationary credit growth by private banks went into reverse.

The mild decline in prices since the late 90s has been a boon for Japanese consumers, who in this time period were pretty much the only people in the world that were not burdened by their money continually losing its purchasing power (always keeping in mind the drawbacks of such measures as 'CPI').

Shinzo Abe and the BoJ under Haruhiko Kuroda aim to change that, but again, the big question remains 'what for'? Before their interventions began to destroy the yen's external value, the real growth of Japan's economy when measured in currencies other than the yen (such as the USD, for example) was actually quite brisk. It should be obvious that Japan has not exactly become a poorhouse over the past 15 years. Its corporations and citizens inter alia remain the world's largest foreign investors, a position they are also likely to lose as a result of the Abe 'cure', which has led to a growing trade deficit and for the first time in ages also to a current account deficit last year.


Japan's CPI – the mild decline in prices since the late 90s – which is actually better described as 'more or less stable prices' – has been a boon for Japan's consumers - click to enlarge.


Under 'Abenomics', the trade balance has fallen into a steadily worsening deficit – click to enlarge.

There is of course nothing inherently 'bad' about a trade or current account deficit. However, Japanese governments have for years listened to the pernicious advice of Western Keynesians and have driven the country's public debt to such an egregious level, that the only reason it has not blown up yet in a spectacular crisis is the fact that it was possible to finance it entirely from domestic sources. This will soon no longer be the case if the current account deficit lodged last year becomes a permanent feature. It should be noted though that the shutdown of Japan's nuclear plants after the 2011 tsunami has contributed greatly to the trade deficit. A gradual reopening of the plants would help stem the new trend (but there are signs that many plants will actually remain closed).

The Lunatics Have Taken Over the Asylum

Here is more from the Bloomberg article, proving how utterly boneheaded today's central bankers actually are. Not only that, Japan's government is apparently introducing price controls that work in the opposite direction from that normally pursued by governmentsit wants to make sure the price increases resulting from the higher sales tax are fully passed on to consumers. It simply does not get any crazier than this:

“Tadashi Yanai, the billionaire president of clothing retailer Fast Retailing Co., said April 10 that he's not optimistic about the outlook for consumption, ahead of a plunge in his company's shares that contributed to this year's 13 percent slide in the Topix index.

Accelerated inflation would squeeze households, with wages excluding overtime and bonuses declining in February for a 21st straight month, down 0.3 percent from a year earlier, according to April 1 labor ministry data.

Saito, ranked No. 3 forecaster last year, sees the risk of a 3.6 percent increase in the April consumer price gauge, which excludes fresh food, after a 1.3 percent gain in February.

A consumer confidence gauge fell for a third straight month in February to 38.3, down from a six-year high of 45.7 last May and the lowest since September 2011, according to a Cabinet Office survey. "Consumer sentiment has been undermined to a large extent by rising prices," wrote Goldman Sachs Group Inc. economists Naohiko Baba and Yuriko Tanaka in an April 12 note, predicting "a major retreat in sentiment from April as the tax hike drives inflation."


Doutor Coffee Co. said on Feb. 28 it will raise coffee prices by 10 percent from April 1, citing increasing costs of materials and labor. Suntory said March 3 it will increase the price of drinks at vending machines by 8 percent on April 1. Barber shop franchise QB Net Co. raised the price of a hair cut by 8 percent this month.

Companies tend to change their prices in April — when Japan's fiscal year begins — and in October, the start of the second half, Shinke said.

The government is trying to ensure businesses pass the burden of the higher sales tax on to customers. The Ministry of Economy, Trade and Industry dispatched 474 inspectors to check companies' handling of the levy and had ordered 1,199 cases of wrongdoing to be corrected as of the end of March, it said in a statement on April 7.

Many businesses likely weren't able to fully pass on higher material and operations costs when Japan's economy was stagnating and are now seizing the sales-tax bump as a chance to act, with some likely also looking to claw back costs of wage increases, Shinke said. The Consumer Affairs Agency said it received 442 phone calls between April 1 to 7 from people expressing concerns price increases.

In a Feb. 27 speech in New York, the BOJ's Shirai said it was "striking" that most of the public viewed price rises as unfavorable, with survey results implying that the importance of the central bank's target of stable 2 percent inflation "may not be widely understood and shared by households." Shirai said it was vital to explain the people "how this will improve lives in the medium to long term."

(emphasis added)

One is not sure if this is supposed to be some kind of ongoing Japanese in-joke or if they are really serious. Any Japanese citizen who feels like grabbing something and throwing it at Mr. Shirai (a shoe perhaps?), has our full understanding and sympathy.


Only central bankers, their economic advisers and various other minions of the state can possibly fail to recognize what a catastrophe 'Abenomics' is shaping up to be. Given how glaringly obvious its drawbacks are, one must wonder what it is actually supposed to achieve. A futile attempt to reduce the real value of the government's debt on the back of Japan's citizens is the only possibility that suggests itself.

However, a reduction of the public debt should ideally be achieved by government spending cuts. Even an outright default would be preferable to monetary debasement, which in the end is just a default by another name – with the added problem that it will set all the pernicious effects into motion in the economy which monetary inflation invariably tends to bring about.

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