Japan's GDP Problems, The Big Picture

by: Alhambra Investment Partners

By Jeffrey P. Snider

In late February 2014, the Research Institute of Economy, Trade and Industry in Japan put on a seminar with guest lecturer Adam Posen, President of the Peterson Institute for International Economics. The topic of discussion was Abenomics, more broadly, and the Japanese brand of QE specifically. Mr. Posen, from his perch atop an establishment/inside think tank of mainstream economic orthodoxy, made it very clear just how much of a fan he was of the greater debasing lengths to which this round of monetarism was taking the Japanese economy and its people. Of those standing against QQE (as it is referred to by the BoJ), Posen was quick to characterize them as a subset that, "have a vested interest in being cynical and are very publicly dismissive of Abenomics."

On his own side are supposedly those well-educated and well-versed in "international trade" formulation, free from, by implication, any biased attachments that so occasions critique. Economists often fancy themselves as scientists, a class of specialists with specialized knowledge impenetrable to the layperson. These "best and brightest," particularly well-credentialed by the closed loop of the trade, are extremely optimistic and hold strong faith in the course of events.

It's a little different in my community: economists who have worked on Japan in the past. Among this group, which includes central bankers from around the world, there is huge excitement and admiration for what the Bank of Japan (BOJ) is doing. An overwhelming majority of central bankers are very strongly supportive of what the BOJ is doing and very impressed with how they are doing it. Broadly speaking, Abenomics has strong support from the central banking community.

There is a lot contained in that statement that has everything to do with the reason Abenomics is around. This goes well beyond just blatant and overt attempts at economic engineering from the top down, as Japan is a democratic nation that elects governments that only proceed as if there is one economic option. In other words, economically speaking, there may seem to be political options away from economic issues, but when it comes to voting for government choices on figuring out how to break free of the twenty-five year denouement, all that is left is deciding between how much more monetarism might be injected. Central banker seals of approval carry the weight of totality, an experience not limited to Japan.

There is yet a full exposition of why that is, especially given that these "scientists" should be predisposed by that fancy to actually be obedient to observation. Some of it is clearly inertia, as voter apathy is attended throughout all of this. Relatedly, at the same time Mr. Posen was delivering his assurances of elite opinion, a writer in the Atlantic was describing his bend on the chaos and dysfunction in Venezuela. To Moises Naim, there was a cognitive disconnect between reality and theory:

Venezuela is now the world champion of inflation, homicide, insecurity, and shortages of essential goods-from milk for children to insulin for diabetics and all kinds of indispensable products. All this despite having the greatest oil reserves in the world and a government with absolute control of all state institutions and levers of power. [emphasis added]

The last sentence in the quoted passage above is applicable for not just Venezuela, but an increasingly broad section of the "developed" world. Banana Republics are usually so not just because of the standing army and police apparatus' collective loyalty to factionalism, but more often than not that is where "the money is."

Yet, the school of orthodox thought has so deeply penetrated into the public conscious that there are left no alternatives except deepening the "absolute control of all state institutions and levers of power." There is no place on earth over-monetized like that of the Japanese system, which amounts to almost exactly the same equivalence to that which undergirds the outwardly chaotic system in Venezuela. The Bank of Japan runs Japan by all effects regardless of temporal political affiliation - the party changes now and again but the operational procedures never do.

But to those inside the command ideology, these are all articles of unshakable faith. Mr. Posen tried as best he could to at least address the strangest deficiency with regard to Japanese monetary experimentation, namely why they do now what they have done before; over and over again.

I am amazed by the amount of discussion about the costs of QE. There's actually no good evidence that there's a cost to QE, and it's not even clear that there's a good theoretical case for it. Taking Japan's history over the last 15 years or so as an example, it's a counterargument: there were various forms of quantitative easing, but we didn't see inflation, there was no bubble, and there was no breakdown in market functioning-the three biggest costs which people talk about.

This is either blatant misdirection or pure obtuseness. The lack of success of QE can be in the form along those lines as he sees them above, particularly the bubble paralysis that has turned US and European efficiency into deficiency, but that is decidedly not the final end of all this "stimulus." Redistribution may hold those as side effects, but the general idea is to create a healthy economic system whereby the costs of redistribution are easily born out in a robustly growing economy. That as the ultimate goal therefore provides the ultimate measure.

What Mr. Posen does not say speaks more than the condescension offered at the outset, namely that the reason so many QEs of "various forms" have been "necessary" in the first place. If any of the prior QEs had been even partially successful toward the real goal as intended, there would not have been any others. Despite his and Abenomics apologists' best attempts, QE has axiomatically failed - the finish line is a self-sustaining trajectory of economic growth; the term "self-sustaining" meaning no need of further "support." The biggest cost to "which people talk about" is not finance or debt, but rather the persistent tendency of the Japanese economy to find itself so wanting of basic function, now stretching an unbelievable quarter of a century.

However, even that basic logic leaves too little of total account for the monetarist intentions. The statement that there is no "good evidence" of a cost to QE has likely now been put to rest in the minds of anyone without an ideological predisposition, but not in the affirmative. If the mainstream orthodoxy wants to connect QE sufficiency with "deflation" or "inflation" or something in between, the current circumstances offer a pure experimental result. QQE, the latest disruption, has produced the precious "inflation" desperately sought as a solution, and with it further poverty and economic deficiency rather than everything previously expected of it. There is simply no other way to state it honestly.

Over the last three quarters, Japanese GDP has run -0.2%, +6.1%, -6.8%, for a net "gain" of -0.3% for the total span of the nine months. I don't think that qualifies as a basis for optimism, whatever central bankers believe about their own ability to command even a spreadsheet full of regressions. Since QQE began operations at the start of April 2013, Japanese GDP has grown a total of 0.8%; not per quarter, but in total - essentially gone nowhere.

Going back further, to the start of ZIRP all the way back in 1999, Japan's real GDP has gained 13.1% - again, not per something but total overall. Fifteen years of a compounded average of 0.88% per year, which is all the "counterargument" needed to address any central bank optimism about itself. That is only minimally better than the 0.69% that Japan "gained" between 1994 and the start of ZIRP. If it takes far more than a quadrillion yen to get an additional 0.17% per year, they are clearly doing it wrong.

That, of course, is the best case interpretation. Given that the Bank of Japan and its government of every political form has been counting on twin redistribution (monetary and fiscal) since 1990, curiously coincident to the start of the malaise, that sets up what should be a more questionable correlation between intrusion and dysfunction.

The reasons central bankers devolve into discrete fits of self-congratulation is that their mandate "seems" to be taking the right course from time to time, except that final step. They can suppress "market" volatility, court rising and even bubbly asset inflation, and generally put together strings of positive numbers, but none of that is the same as the ultimate and stated endpoint of self-sustaining economic advance. These runs of seemingly "getting it right" are inevitably and invariably broken by "unexpected" setbacks that send them scrambling to find alternate theories of blame. And in the process, as Japan has shown, the net effect is that the economy goes nowhere fast, no ground gained, no sustainable advance.

I think that is ultimately the primary problem, in that the parts where all this "seems" to work are separated from where they don't. There is no clear view of an unbroken string of causation that too easily allows the "Venezuela effect" to continue, where conventional expectation continues to assign and expect success with total control from the top when every piece of evidence demonstrates exactly otherwise - all that is needed is some basic curiosity about context greater than three months. The only hope for the Japanese, and the other "developed" nations that are treading in exactly the same footprints, is to begin connecting the dots and to stop viewing redistribution as anything other than dangerous and corrosive.

The road to hell may be paved by good intentions, but that track far more often than not is laid down by the "best and brightest" who seem to confuse themselves with infallibility.