Remarkable economic anomalies are unfolding right before us. The 10-Year Treasury Note currently yields a mere 1.58 percent, while gold remains steadfastly above $1,700 per ounce, despite a recent downturn. This paradox reflects a simultaneous expectation of both deflation and inflation among investors.
Concerning the stock market, opinions vary greatly: one analyst predicts a downturn, while another foresees a consolidation phase leading to a significant rally. Both perspectives could indeed hold validity.
Notice that the S&P 500 is still trailing behind its value from the turn of the millennium. Back then, the prevailing belief was that stocks always appreciate over the long term. Today, however, the notion of “the long run” has expanded significantly. But how much longer can we expect this trend to last?
In Japan, they are grappling with this very question. On January 29, 1989, the NIKKEI 225 closed at 38,916. Fast forward to today, it stands at just 9,545—a staggering decline of over 75 percent after all these years.
Investors who purchased stocks in December 1989 have witnessed their investments stagnate for much of their adult lives. Surely, 23 years into the future, the NIKKEI will reach a new high—one would think that should suffice for a long-term investment, right?
Japan’s Trade Deficit Challenges
However, the term ‘long-term stocks’ is just one of many economic issues Japan is tackling. Among them are record-low bond yields; just last Wednesday, yields on Japan’s 10-Year Note dropped to an astonishing 0.70 percent—less than half that of a 10-Year U.S. Treasury Note, which is also witnessing historic lows.
Simultaneously, Japan’s national debt has soared to 220 percent of its GDP. This figure sensationally broadens the realm of what is logically achievable…yet it unfolds right before our eyes. In comparison, Japan’s debt is double that of the United States. However, unlike the U.S., Japan has primarily financed its debt through domestic channels.
This has been possible due to Japan’s historically positive trade balance, allowing its citizens to leverage their exports to address government budget deficits. Yet this trend may be reversing…
Since 2011, Japan has been operating under a trade deficit for the first time since 1980, and this trend has persisted into 2012. In fact, except for February and June, Japan has recorded a trade deficit every month this year. Should this continue, reliance on foreign lenders may become necessary, and they will likely demand higher yields in exchange for purchasing Japanese debt.
In contrast, while the United States braces for the economic repercussions of simultaneous tax hikes and spending cuts, Japan is preparing to face the fallout from its potential debt crisis…
Are You Prepared?
As noted by The Economist, “Japanese saving rates are plummeting as the population ages.” A declining working-age population has resulted in reduced overall savings, which might soon turn negative.
“Yet liabilities of the Japanese government continue to grow. Eventually, the sum of government liabilities may exceed total domestic savings, meaning that even if all domestic savings were directed towards government bonds, foreign lenders would be necessary to meet borrowing needs.
“It is anticipated that these foreign investors will require better returns, especially given the looming risk of potential default. With rising rates, the situation will become untenable. Even under optimistic forecasts, disaster looms within a decade.”
Japan’s experience serves as a reminder that the decline of an advanced industrial nation can unfold more slowly than one might expect, yet it is inevitable.
The United States seems to be mirroring Japan’s path. However, due to a long history of trade deficits, the U.S. will not have the flexibility to push its debt beyond 200 percent of GDP. When tax increases and spending cuts finally converge, the U.S. economy will likely falter.
This scenario could deliver President Obama and his advisors the crisis they need to trigger significant economic mismanagement. Moreover, public demand for action will only intensify, leading the government to spend aggressively…until the dollar finally collapses.
Sincerely,
MN Gordon
for Economic Prism