When we parted company on Friday, we were wondering to what extent the world’s largest economy might resemble the world’s second largest.
Both experienced an enormous stock market bubble. Between 1985 and 1989, stocks in Japan rose 200%. Ten years later, Wall Street performed the same trick…with the S&P 500 up about 200% over the 5 years, 1995-2000.
The parallel was there for all the world to see.
Krugman spells it out in the New York Times Sunday magazine: “An already advanced nation pulls ahead of its first world peers, taking the lead in all the hot new technologies. Stock prices soar to levels that look insane using conventional criteria, but everyone agrees that in such a dynamic economy old rules no longer apply. And then the bubble bursts, leaving behind a mountain of bad debts and an economic engine that refused to turnover. Name two countries whose experience in the last 20 years fit that description.”
Yet, no one seemed to notice the resemblance. Over the past 10 years it seemed as though Japan and the U.S. were not even on the same planet. While the U.S. economy benefited, or so it seemed, from every favorable omen and every serendipitous advantage, from the Info Tech revolution to the Peace Dividend, Japan’s economy lay inert and friendless.
Within 5 years, Japan had gone from being the idol of the entire world to being an object of open contempt. In 1989, American businessmen were practically straightening their hair and dying it black in fawning imitation of their Japanese role models. A few years later, they were offering the Japanese advice…and seemed almost indignant when it produced no favorable response.
And yet, suddenly, Japan is back in the news and looks like a trendsetter again.
Why should we care what happens in Japan?
Today, the financial press reports that Japan bought $24.8 billion worth of dollars and euros last month. The reason? The Bank of Japan wanted to “reverse a rise in the yen,” reported Bloomberg. Japan is as eager as other nations to wage war on its own currency but has less ammunition to throw into the fight. It has already lowered rates to the point that there remains nothing more to lower.
But Japan has been caught in what economists call a “liquidity trap.” As the return on other assets declines – earnings from stocks, bonds, real estate – it becomes more attractive to hold cash. Also, when the world begins to feel less safe…people begin to prefer to hold cash rather than spend or invest it.
Could America also be putting its foot in a “liquidity trap”?
Americans’ preference for liquidity reached an epic low recently – with savings rates falling below zero and recently rebounding to 1.1%. If rates merely increased by 2 percentage points it would take $150 billion out of the economy, overwhelming any attempts at fiscal or monetary loosening.
Mightn’t Americans – groaning under the biggest debt burdens ever…losing their jobs…facing what might be a long, expensive, uncertain “war on terrorism” – decide to imitate the Japanese habit of saving…just a little? Mightn’t frugality come back in style?
Various heads of the Bank of Japan have already done what Alan Greenspan of the Federal Reserve is in the process of doing – fighting a liquidity trap. Central bankers manage their currencies…by allowing their destruction at a mild, steady pace. Liquidity traps interfere, boosting the value of money relative to goods and services. Central bankers cut interest rates in response. But in a real meltdown, it does no good. Instead, they get a deflationary spiral downwards, Krugman explains, “in which falling prices and a slumping economy feed on each other, plunging the economy into an abyss.”
Lower interest rates did nothing for the Alan Greespan of Japan. In fact, they probably only postponed the day of reckoning…turning a crash into what Krugman calls “a long, slow-motion depression.”
When interest rates of zero failed, Japan did not hesitate to “crank up the presses” on the fiscal front. As Krugman reports, “In 1996, Japan’s public works spending, as a share of GDP, was more than 4 times that of the U.S.” And though the island nation has only 4% of the land area of the U.S., “Japan poured as much concrete as we did.”
(If Japan really is setting a new mode…DR readers may want to recall my suggestion of a few days ago: Buy cement.)
“I wish I could say with confidence,” Krugman continues, “that Japan’s dismal experience is of no relevance to the U.S. And certainly our nations are very different in many ways. But there is a distinct resemblance between what happened to Japan a decade ago and what was happening to the United States economy just a few weeks ago. Indeed, Japan’s story reads all too much like a morality play designed for our edification.”
Wouldn’t it be just like Nature to put on a morality play for American investors and policymakers? Didn’t She warn Caesar of the ides of March…and put shoe-shine boys on the streets of NY to offer stock tips? And wasn’t it She who put first-hand accounts of Napoleon’s disastrous campaign against Russia in the hands of Hitlers’ generals as they crossed the Berezina? Didn’t She put Bezos’ mug on Time magazine when AMZN was nearly $100 a share…and ring the bell at the very top of America’s bubble with deliciously absurd statements from people who should have known better?
But these little glimpses into the future must be ignored. Or else, history would be as drab and meaningless as a joint session of Congress.
And so must the parallel between the U.S. economy and the Japanese experience of the last 10 years remain our little secret. Otherwise, investors would pull their money out of stocks in a panic…and consumers would begin to save their money…well, like the Japanese.
Until tomorrow, explaining why the situation in America may be worse than Japan…
October 8, 2001
Pray for clear skies.
The big news at the end of last week was that 199,000 fewer people had to report for work this Monday morning.
People who lose their jobs typically fall back on savings. But few people today have much of a cushion waiting for them. “Even during the past decade of prosperity,” notes a Wall Street Journal article, “many people failed – or simply weren’t able – to put away enough money for rainy days.”
At midyear, the savings rate was only 1.1%. Uh…let’s see…how long would you have to save at that rate in order to have a year’s worth of income ready for a rainy day? Hmmm…hard to say…depends on what you do with the savings…but about 75 years might be about right.
Of course, we are reminded that the savings figures do not include capital gains. But the Wilshire 5000 – the broadest measure of the stock market – is down 40% over the last year and a half…or about $5 trillion.
While savings are meager, debt is abundant. Debt service has risen to 14.35% of disposable income…from 13.51% in 1990.
Householders are woefully ill-prepared for inclement weather. Eric, how do the skies look over your way…?
Eric Fry in New York:
– U.S.-led military forces lit up Kabul, Kandahar, Jalalabad, Mazar-e-Sharif – and a bunch of other cities no one had heard of 30 days ago – with missiles, bombs and other ordnance. Forgive me if I don’t let out an audible “Hooray!” Military action – like getting a filling – is a painful solution, even if it is necessary.
– I find the news depressing, not exhilarating. And it wouldn’t surprise me one bit if Mr. Market sees it the same way.
– For several weeks, the experts have portrayed Mr. Market as a bellicose sort of guy who delights in armed conflict. “Remember,” they say, “how the market rallied after Pearl Harbor and after the Cuban Missile Crisis.” Perhaps Mr. Market does like war. But he’s never been fond of expensive stocks, companies whose earnings are collapsing, and economies that are sliding into recession. And that’s what we’ve got.
– Rallies are probably better sold then bought right now.
– Greenspan is slashing interest rates, Bush is spending billions of dollars we don’t have, and the ever-bullish Abby Joseph Cohen is more bullishly bullish than ever. What more could the stock market want?
– At the Daily Reckoning we don’t have the answers, but we do have a couple of questions:
First off, why would I want to buy stocks selling for 30 times declining earnings, much less stocks like Yahoo that sell for more than 90 times earnings?
Secondly, why do investors find themselves itching to buy an expensive stock just because it is less expensive than it had been a few months earlier? Would anyone today “back up the truck” to buy Beanie Babies for $50 apiece just because at one time people bought and sold them for more than $100 apiece?
– The stock market may have fallen a lot, but it still ain’t cheap.
– Furthermore, the financial markets are nervously navigating the shoals of declining profits on the one side and the reef of tapped-out consumers on the other. First Call estimates that third-quarter profits will plummet 22% year-over-year. What’s a value-seeking contrarian to do?
– Cash isn’t a bad idea.
– “Abby Joseph Cohen, Chief Investment Strategist at Goldman Sachs, was out with a new target for the S&P 500 this morning,” reports USA Today. “She sees the index finishing out 2002 somewhere between 1,300 and 1,425. From today’s levels that forecast represents a gain in the range of 23% to 35%.”
– Of course, Ms. Cohen has touted an upbeat outlook for some time and it hasn’t exactly worked out that way. She just might be wrong…again.
– And then there’s Peter Malkin, a guy who likes buildings as much as Ms. Cohen likes stocks. Malkin, as the ultimate contrarian, commands our attention, if not exactly our admiration. Even contrarian investment behavior has its limits, and Mr. Malkin just may have exceeded them by offering to purchase the Empire State Building for $57.5 million.
– Now that Manhattan’s famous landmark has regained its status as the city’s tallest skyscraper, it has also regained an ignominious identity as the city’s foremost terrorist target. And while I assume that the building is in fact safe from a terrorist attack, it is not safe from a barrage of crank bomb threats and other continuously disruptive events.
– It could be challenging to keep long-term tenants intact. What’s more, based on the current rental stream, the lease income would return no better than CD rates – about 3.4% – on a $57.5 million purchase price. I’ll take the CD, thanks.
– Meanwhile, “The United States, by far, remains the world’s largest producer and seller of arms,” reports the DR Blue intelligence team, “selling more than $18.6 billion worth in 2000. The next in line, Russia, manufactures and sells considerably less than half that amount ($7.7 billion), but the amount and type of weaponry available from Russia is growing dramatically, as are the numbers and types of potential purchasers of Kalishnikovs, tanks, and mobile missile units.”
– “Global arms sales were worth $36.8 billion in 2000, up 8 percent from 1999,” the report continues. “Intelligence experts” are concerned about the proliferation of cheaper Russian and Chinese arms on the market and how they seem to be the weapons of choice among terrorist groups.
– The market crashed last Friday…for Mark McGwire’s 70th home run ball, that is.
– The Daily Reckoning faithful will recall reading last week that a Mr. Todd McFarlane paid $3 million in 1998 for McGwire’s record-setting baseball. Sadly for Mr. McFarlane, Barry Bonds hit home runs No. 71 and 72 on Friday, thereby eclipsing McGwire’s record.
– If McGwire’s baseball was ever worth $3 million, it is worth far less now. The special baseball is not so different from the shares of Cisco Systems, the one stock that everyone simply had to own in March of 2000, even if it meant paying far more for it than any rationale assessment could ever justify.
– Cisco’s stock price has fallen more than 80% since then. The value of McFarland’s special baseball has likely fallen even more. Brings to mind a phrase popular among the ancients: “Margin of safety.”
Back in Paris…
*** Skies are grey. It is rainy here already…
*** There is nothing quite as lonely as writer on a rainy day. You are stuck with your own thoughts… like a castaway on a desert island.
*** Perhaps that is why most writers turn out such gloomy, self-absorbed, absurd, mawkish, claptrap. They have only their own thoughts to work with…
*** And maybe that is why writers tend to drink so much. Some lonely professions tend to encourage drinking. I once worked as a housepainter and noticed that the older painters were almost always dipsomaniacs. Or insanely pleasant. There is just too much time for thinking as you swing your brush or roll your roller, I guess.
*** What triggered these thoughts was the discovery of a cache of empty bottles near a tumble-down garden house out in the country.
*** “Oh…those must have been left by Leon,” explained a neighbor. “Leon was a character. He was the gardener here in the ’50s. He would spend most of his time in the garden shed. And then, when he came out…he would weave around…we all thought he was going to fall down.
“But those were different times. People were much more relaxed about things. Leon was a good gardener…and people didn’t worry about his drinking.
“Leon had been a prisoner of war in Germany,” continued our neighbor, warming to his reminiscences. “He was forced to work on a farm run by a huge German woman… you should have heard his description of her. She was very mean. Every day, Leon would have to get up at 5 a.m. and prepare a fire in the big kitchen stove. Then, when she came down…she’d light it.
“Well, finally, the war was over…and Leon was free. On that last day, he prepared the fire as usual…except that behind the paper and kindling…he laid a pot of oil or grease or something. Leon left just as she put a match to the fire…and said he laughed all the way to Paris.”