A recap of Japan & their trouble; but at least they’re aiming
Japan has been an economic disaster brewing for a long time. Their debt to GDP stands at a staggering 263% and many are calling Japan the canary in the coal mine to see how they’re going to manage that pile of debt. Despite this, Japan is still the 3rd largest economy in the world & and they are the Yen is still the 3rd most used currency on global markets.
What went wrong?
If we go back 40 years ago, many thought Japan would overtake the US because of their exports and rapid development at home. The global push to globalization and free trade allowed them to specialize in manufacturing & consumer electronics for countries abroad and undergo their own modern industrialization that was truly amazing (10% growth a year in the 60s!). However, for the past three decades they’ve really had no significant growth whatsoever. So what happened?
Given the rise of Japan, the USA felt like they were missing out of some the success at the table. Rather than create a shoving contest of tariffs back and forth, the US came up with a plan to cheapen their current (The Plaza Accord) relative to other major exporting economies. This meant that American imports had less purchasing power to purchase foreign goods (Japanese cars) while Japanese imports had more purchasing power to buy domestic goods (American cars). Japan gave into this deal (because it was better than American sanctions) and American’s didn’t “need” Japanese cars and Nintendos, but the Japanese did need oil, food and minerals, so they were in a tough position to reject this Plaza Accord.
So, the yen strengthened in value and overnight, Japanese citizens got richer. What do you do when you’re richer? You spend, a lot. The Japanese spent everything on everything and witnessed immense growth. It’s said that with some districts of Tokyo in 1989, if you were to lay a bill on the ground, the square footage (square cm more like it) that the bill covered was worth more than the bill itself. The central bank radically cut interest rates to withstand some reductions of their exports, but rather than exporters taking advantage, again, everyone took advantage. Mr and Mrs. Tanaka borrowed as much yen as possible and flooded the stock market and real estate market, pumping up one of the largest bubbles. The bubble eventually popped and the demand for goods fell with all these fresh new debts on the books, which meant prices fell as well and they fell into a deflation death spiral (search about this if you’re unaware– it’s not good).
Even after paying down their debts and the central bank lowering rates even further, their products were becoming less competitive relative to the rest of East Asia and their population was aging rapidly (Japan has one of the lowest fertility rates in the world–more on this for the subscribers!) and bad demographics is bad growth. As a solution, the central bank started printing up money to buy everything to “stimulate” the economy. This hadn’t worked however for three reasons.
What became of this was the new owner of assets just became the bank, rather than the natural organic economy; further proof there is nothing stimulative since this has been the policy for 30 years. Moreover, as one may expect, this did not lead to further goods being produced. Financializing their economy did not produce a turnover of supply of goods and services as expected. Lastly, Japan’s culture itself has been restrictive on the mobility of employees, capital and large corporations as well which has made it difficult to get the bank reserves into the hands of Mr and Mrs. Tanaka. One interesting case of this is when the Central Bank of Japan gives fresh new yen to investors to invest with, they instinctively (perhaps due to cultural reasons) return this money to shareholders directly. What’s the problem? –The Central bank (BOJ) IS the shareholder & money never makes it into circulation to therefore cause inflation(I think i’ll create a whole new article on this)
So, you may be scratching your head thinking ‘wait a minute their money printer has been running hot for that long and they never had inflation? Let’s just do that where I live because I’m sick of this inflation!’
One interesting aspect here is that while Japan’s base money went crazy (the money that banks have in their reserves) broad money (the money that is considered in deposits, chequing accounts, cash, “money in circulation”) has remained somewhat stable. This is because of low borrowing rates in Japan and high levels of paying debts; in essence there exists a disconnect between the banks and the Japanese citizens. They were able to stomach their immense amounts of bank reserves without having this cause uncontrollable inflation. This is worth noting inflation really comes down to fiscal policy or spending and I’m pretty sure by the time you finish reading this article Biden sent another billion to the Ukraine right before the disability and welfare cheques went out.
Nevertheless, through quantitative easing, deficit spending and negative interest rates their debts have skyrocketed–and we may be seeing the ‘stuff’ hit the fan again for Japan. Japan is left in a tough situation, even despite not much foreign borrowing. After Japan seeing their first bout of inflation in the last year or so, it has set a cascade of potentialities that have no good ending.
If borrowing costs were to shoot up, then the interest payment on this debt would force a default. For instance, if borrowing costs went to 6%, the interest on the existing debt would amount to 100% of current tax revenues (this is without considering defence spending and social security which cannot afford to not be paid).
To get to such sizeable debts, the Bank of Japan (BOJ) have kept short term interest rates close to 0% to make the interest on this manageable, as well as making borrowing costs lower for government and banks to operate. However, since inflation has increased and deposit rates are at zero, depositors are getting -3% in real terms, something not felt for many, many years.
If Japanese depositors were to pull their money seeking a new home, be it gold, domestic or foreign equities, then this would force Japanese commercial banks to pull some of their own deposits from the Bank of Japan to compensate. The problem with this however, is that the deposits that the Bank of Japan has from commercial banks are used to collaterize purchases of the bonds they have been buying for the last 30 years (to print future yen). In other words, for the money printer machine or quantitative easing to continue (to service this crazy debt) the BOJ needs commercial bank deposits on their books.
Otherwise, the BOJ has three other options to go good for the necessary collateral to buy more bonds: 1) They can sell off bonds they already own, which would stimulate a sell off of bonds (reducing their value of what they didn’t sell & hence, total assets), 2) they could print money which runs the risk of being inflationary given that inflation is now present, or 3) they could raise interest rates but as I said, this would make the real interest payments on the debt very large, cause stagnation in the economy and create a larger budget deficit for the government to borrow against.
There’s no good options as you can see and it’s not the fault of 3% (or perhaps higher) inflation–it’s the fault of debt.
So they are between a rock and a hard place. Japan’s Central Bank for the first time in decades have raised their interest rate target (or rather, announced they’d “allow” rates to touch 1%). Do they crash & try to recover or inflate away & Money Printer go Brrr?. They may very well become a poster child for the concept of Modern Monetary Theory, failing. But we shall see!
However, despite all that history and monetary jargon one thing that Japan is doing that other countries have rejected–drilling offshore for natural gas. European politicians, cover your eyes..
Precarious position, but some positive steps
While the world is locking themselves out of economic solutions, A Japanese company Japan Oil, Natural Gas and Metals Corporation (JOGMEC) is now exploring their own offshore natural gas exploration of the Niigata gas fields, the first offshore venture in over 3 decades. Currently the Niigata prefecture (similar to a province) has 5 sources of crude oil and natural gas production and currently only one offshore set up exists in all Japanese waters. JOGMEC has started this process in early 2022 with an initial investment of 288 Million dollars and more to be expected.
But JOGMEC isn’t the only Japanese company that’s focusing on domestic offshore finds. INPEX, a large multinational oil and nat gas company are also preparing to explore natural gas reserves, domestically. Their focus is in the Shimane and Yamaguchi prefectures (South of Niigata but still in the West) which have outlined an estimated of 1.4 Tcf of recoverable natural gas. A small amount relative to other countries but this amount would be roughly 1.2% of their regular consumption that is likely imported. The exploration project will last till 2027-2028 and production expected to take place in 2032.
JX Nippon Oil & Gas are also acquiring Japan Drilling Company, although it’s unclear if operations will be domestic like the others. Japan is currently 90% dependent on crude oil imports from the Middle East; they receive almost all their coal from Australia and Asian countries, too.
Japan has signed onto the ‘Carbon neutrality’ jargon with other Western countries but are eager to utilize natural gas as a means of meeting their specified targets and have upped oil and natural gas imports as a means of ensuring energy security–much more efficient than banning energy imports for the sake of stagnant windmills. In fact, don’t take it from me, take it from their Minister of Economy, Trade and Industry. Under its “Agency for Natural Resources and Energy” they quote:
In recent years, attention is focusing on energy from natural sources such as renewable energy. However, solar and wind power are influenced by natural conditions, making it difficult to obtain a stable supply. In order to utilize these energy sources, technology for storage batteries is essential. And building storage batteries needs rare metals. For instance, in lithium-ion batteries, which are used for electrified vehicles, rare metals such as lithium, cobalt and nickel are used. Japan depends almost 100% on imports for such mineral resources. There will be increasing demand for power generation facilities using renewables and electrified vehicles. Therefore, it is necessary to secure a stable supply of mineral resources such as rare metals which are expected to play a more important role in the future.
The Japanese recognize they are simply substituting one import problem for another. And despite being known as the poster child for “nuclear disaster”, a cabinet decision in 2020 sought to revamp electricity infrastructure and safety protocols to mitigate earthquakes noting that:
Regarding nuclear power, if the Nuclear Regulation Authority recognizes that a nuclear power plant conforms with the new regulatory standards, the restart of the power plant will be advanced with the judgment of the authority respected. It must proceed on the primary premise of safety, while obtaining understanding from the local stakeholders.
You’re going to want to read my article on Uranium when it’s released. Explosive upside, pardon the pun.
Japan’s plan to become less reliant on foreign sources of energy will further tame inflation concerns in the future and so long as cultural norms loosen, it could allow for foreign investment. Although, given their _damned if you do damned if you don’t_ scenario because of their debt, it doesn’t seem like this it will smooth their economic turbulence in the near future.
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