Pork-Barrel Spending Expert Becomes Finance Minister
It appears it is not enough for Shinzo Abe to attempt to wrest control over the nominally independent Bank of Japan from its board with the aim of getting it to “inflate Japan to prosperity”. The erroneous belief that one can get something for nothing by cranking up the printing presses is of course deeply ingrained all over the world, but as policy options go, it is an especially bad one for Japan with its graying and society and declining population. As we have mentioned before, inflation is about as useful to Japan's citizens as a hole in the head.
Now Abe also wants to add to the debtberg of his government, already the by far biggest in the industrialized world relative to the size of the economy, but more importantly, the most costly relative to the size of the government's tax revenues, even while interest rates are at generational lows.
To this end he has now appointed the 6th Japanese finance minister in three years, a former prime minister, and as Bloomberg informs us, an old hand at 'pork-barrel spending', 72 year old Taro Aso.
Aso is the scion of a cement manufacturer, i.e., he has ties to an industry that has always been one of the main beneficiaries of Japan's “artificial life support for malinvested capital” policies over the years. One might as well call him the new minister of bridges to nowhere.
According to Bloomberg:
“Taro Aso, son of a cement magnate and a champion of pork-barrel spending when prime minister, became Japan’s sixth finance chief in three years, auguring expanded fiscal stimulus in the world’s third-largest economy.
Aso, 72, will also serve as deputy prime minister and financial services minister in Prime Minister Shinzo Abe’s administration, Chief Cabinet Secretary Yoshihide Suga said in Tokyo yesterday. Fumio Kishida is foreign minister, while Akira Amari was named economy minister.
The finance minister’s first task will be to deliver on his party’s pledge of a “large-scale” supplementary budget to stimulate the economy, which is forecast to shrink for a third straight quarter. At issue will be averting any sell-off in the bond market as the nation grapples with debt in excess of twice the size of gross domestic product and as Aso calls for a new plan to restore fiscal health.
“Aso’s challenge will be to pursue an expansionary fiscal policy without triggering a rise in bond yields,” said Mari Iwashita, Tokyo-based bond strategist at SMBC Nikko Securities Inc. “It seems the LDP isn’t paying much attention to the bond markets. It’s possible that ratings companies may signal a downgrade as a warning.”
The Liberal Democratic Party must establish its own “framework” to curb spending and debt expansion, Aso told reporters early this morning after the Cabinet was sworn in by Emperor Akihito. Aso said he won’t adhere to limits made by the previous government to cap new bond issuance for the fiscal year ending March 31 to 44 trillion yen ($514 billion).
“We can see that Japan has completely failed to overcome deflation during the past three years,” Aso said. “Our priority is to ensure Japanese people can perceive that the economy is improving.”
Japan’s sovereign bond risk increased in the run-up to the assumption of power by the LDP, which won elections for the lower house of Parliament Dec. 16. The cost to insure the debt from non-payment for five years rose 14.5 basis points to 86 basis points as of 3:04 p.m. in Tokyo yesterday, from 71.5 basis points Nov. 13, according to data provider CMA. That’s on course for its highest close since Sept. 26, the data show.”
We have said it many times, but it should be said again: there is no 'deflation' in Japan and there never has been any. The Japanese true money supply has grown every single year since the bubble has burst, albeit at a far slower rate than during the bubble years. This has led to a barely noticeable, mild decline in prices in those years when productivity growth outran the increase in the money supply. We hasten to add that this is merely a 'rule of thumb' type of statement, as the connection between all these moving parts is of course not mechanical at all. There are leads and lags involved and the effects are both non-linear and influenced by numerous other factors that will differ from time period to time period. However, as a rule of thumb, this is certainly how inflation, productivity growth and prices hang together in principle.
So there is nothing that needs “curing” by the printing press. It is however still more astonishing that Aso and Abe seem to think that they has nigh endless room to maneuver with regard to issuing even more debt. Not only will the spending this debt issuance finances end up just as wasted as all previous stimulus budgets, but there is altogether too much debt extant and the priority should be to lower it, not add to it. By increasing the debtberg further at this juncture, Japan may well lose its last chance to alter the dynamics of what increasingly appears to be an inescapable endgame.
To be sure, the markets are so far not overly concerned. As can be seen below, while 5 year CDS on Japanese sovereign debt have indeed increased somewhat lately, spreads are so far still near the low end of their recent range. However, apprehension is likely to grow in view of the aggressive verbiage emanating from the new government.
Specifically, Shinzo Abe has also begun to refer to an ongoing “currency war” recently, indicating that he thinks it should now be Japan's turn to add kindling to the global fiat currency bonfire. Actually, pouring gasoline on it may be the more appropriate imagery (more on this further below).
There are strongly varying degrees of suspension of disbelief detectable in the markets. Not only are CDS spreads still tame, the Japanese government bond market continues to cruise serenely along near its recent highs, with all uptrend lines perfectly intact. The JGB market is basically greeting Abe's pro-inflation declarations a big yawn – it evidently does not really believe that he will get very far with these ideas.
It is quite different with the yen and the Nikkei, but these markets look by now rather stretched in the short term.
5 year CDS on Ireland, Belgium, France and Japan (the white line). At 81.09 basis points, CDS spreads on Japanese debt are the lowest of the four and remain about 65 basis points below their high of the past year – click for better resolution.
A weekly chart of the continuous JGB futures contract over the past five years. The bond market has lost all of a single point so far as a result of Abe's policy pronouncements, displaying a remarkable lack of concern – click for better resolution.
So far it would not be wrong to state that the markets seem to think it's all good and there can be no adverse consequences whatsoever as a result of the policies Abe proposes. So either the bond market is wrong, or Abe is more bark than bite. At least the Japanese government is mostly borrowing from its own citizens. As Steven Wright once remarked, it is always a good idea to borrow money from pessimists, as they usually don't expect to get it back.
In what has to be the laugh of the week in view of his proposals (award of the laugh of the month must remain reserved for now due to the ongoing 'fiscal cliff' antics in the US), Shinzo Abe complained over the holidays about other central banks printing too much money. Even more risible is that Mervyn King of all people (proud owner of 25% of all outstanding UK gilts) opined on the same topic concurrently, expressing his “concerns”:
“Japan's incoming prime minister fired a volley into increasingly tense global currency markets, saying the country must defend itself against attempts by other governments to devalue their currencies by ensuring the yen weakens as well.
Shinzo Abe's call comes as others including Bank of England Gov. Mervyn King warn that the world's economic-policy makers risk becoming embroiled in currency spats that could heighten tensions among countries.
Mr. Abe on Sunday called on Japan's central bank to resist what he described as moves by the U.S. and Europe to cheapen their currencies and noted that a yen level of around ¥90 to the dollar—it was at ¥84.38 in early Asian trading Monday, down from ¥84.26 late Friday—would support the profit of Japanese exporters. Tokyo markets were closed on Monday for a holiday.
"Central banks around the world are printing money, supporting their economies and increasing exports. America is the prime example," said Mr. Abe, referring to the Federal Reserve's policy of flooding the market with dollars by purchasing massive amounts of Treasury bonds and other assets.
"If it goes on like this, the yen will inevitably strengthen. It's vital to resist this," said Mr. Abe, who will become prime minister on Wednesday.
Mr. King, in an interview this month, said, "I do think 2013 could be a challenging year in which we will, in fact, see a number of countries trying to push down their exchange rates. That does lead to concerns."
You couldn't make this up if you tried. Abe is yet another stand-up comedian manqué, and so is evidently King. They are on stage even so, only it's the wrong one. Abe is not even attempting to demand that the other central banks stop printing so much money – instead he wants the BoJ to simply out-print them, in a variation of the “two wrongs make a right” theme.
People trading the yen evidently believe Abe will be successful – although this is not yet backed up by hard data (while Japan's true money supply grew at a relatively brisk – for Japan – 4.3% year-on-year, it actually shrank by 1,6% annualized over the past quarter). As noted previously, speculators are now betting so heavily on a continuation of the yen's recent downtrend that it actually seems increasingly unlikely to continue for much longer, purely based on sentiment and market structure grounds.
Dollar-yen, cash, over the past year: the recent sharp decline of the yen has seen speculators amass a near record net short position in yen futures in the aggregate – click for better resolution.
The Nikkei index has meanwhile become short term overbought, although it would be incorrect to call it “overvalued” after the recent rally. It remains one of the cheapest markets in the world, as the recent rise is mostly a reflection of the weaker yen. Admittedly though both the longer term yen and Nikkei charts suggest that the recent moves may have further to go after a pullback.
The continuous Nikkei futures contract chart over the past five years. The recent rally was quite strong, but it is still just a blip in the longer term picture – click for better resolution.
As our readers know, we have waxed positively about Japan's stock market just before its recent rise, but that was mainly based on three factors:
Valuation, sentiment and the enormous decline in volatility. The first is what argues in favor of Japanese stocks in the long term, the latter two argued for a rally to begin in the near term.
So far so good, but we don't really like it that the rally was apparently driven by a weakening yen – that's just not a very good reason for the market to rally and makes the recent move increasingly vulnerable to disappointment.
Or in other words – to quote one of our favorite actual stand-up comedians for a second time (the master of the pithy one-liner, Steven Wright):
“If everything seems to be going well, you have obviously overlooked something.”
Charts by: Barcharts, Bloomberg
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