Japan’s key equity market indices fell more than 6 percent overnight, the most since the aftermath of the 2011 earthquake. Bloomberg reports that futures trading in Osaka was suspended.
“Every Asian market outside Sri Lanka retreated after Federal Reserve Chairman Ben S. Bernanke yesterday said a premature withdrawal of quantitative easing would put the U.S. economic recovery at risk,” Jonathan Burgos reports. What does this say about the US and, in particular, the policies of the Federal Open Market Committee, which are pretty much identical?
Reading through the FOMC minutes released yesterday, it is hard not to be struck by the desperation apparent both in the language and between the lines. The fact that Fed Chairman Ben Bernanke is still worried about “inflation going down” – i.e., deflation – is very telling. But the fact is that in both the US, the EU, and Japan, consumers and businesses face rising costs and flat to down opportunities for jobs or creating revenue.
It was only a week ago that the New York Times informed us that the explicitly inflationary policies followed by the Bank of Japan (BOJ) were starting to show results, measured by the decline of the yen vs. the dollar. This currency debasement is seen as a positive accomplishment, at least viewed through the Keynesian/Socialist prism that represents the mainstream in Barack Obama’s Washington. We discussed this issue earlier with Jim Rickards, who sees Japan’s moves as tantamount to a trade war in Asia.
The problem with the economic policies being followed in Japan and the US alike is the same error that was first advanced by John Maynard Keynes after WWII; namely that focusing on consumer spending rather than production is a mistake. No matter how much money you print, the inflationary impact of these policies exceeds even the nominal gains in terms of job creation.
Because our de facto overlords at the Fed and other global central banks refuse to admit their policies are ineffective, we continue to run the printing press, digging the hole for consumers deeper and deeper. The fact is that public spending in the industrial nations, inclusive of bailouts and debt purchases by central banks, has soared. Yet the high priest of global socialism, Paul Krugman, makes the argument that the industrial nations are hobbled by “austerity” in the public sector.
What the financial markets are saying with Japan’s financial meltdown today is that monetary policy stimulus without some substance underneath, in terms of job creation and credit expansion, is not convincing. The US equity markets, which are up more than 20% this year depending on the benchmark you choose, have the same problem. For every $4 dollars in increased earnings by companies in the S&P 500 index, revenue is up about $1.
Thanks to the FOMC’s quantitative easing policies, we now have cash-driven bubbles in many financial asset classes. Japan has likewise experienced an equity market rally thanks to the massive monetary expansion by the BOJ. But in both cases, the economic fundamentals do not support increasingly expensive market valuations.
Bernanke and the FOMC have painted themselves into a corner, but nobody at the Fed understands this, much less wants to emit a public mea culpa. But the fact remains that when QE ends and/or corporate earnings undershoot expectations because of continued economic weakness, the US equity markets are going to correct with a vengeance. See my hit with Matt Nesto on Yahoo Daily Ticker about Bernanke’s “Big Lie.”
Look for Japan to become an increasing source of systemic instability in global markets in the days and weeks ahead. The Japanese are desperate to print their way out of a terrible deflation, but their problem is one that monetary policy alone cannot really address. The biggest factors behind the continued deflation in global financial markets is the still lingering piles of bad public and private debt which nobody, neither global politicians or central bankers, want to confront.
The final act by the Japanese, my friend Kyle Bass has long argued, is a debt default by the land of the rising sun. “Kyle Bass hopes he is wrong,” reports the Financial Times, “and so may everyone else, as the danger predicted by the founder of Dallas-based Hayman Capital is nothing less than a full blown financial crisis in the world’s third-largest economy, Japan.”
Escaping public debt via inflation is the real endgame for both central bankers in Japan and the US. Stay tuned.