- When it comes to economic recovery stories, most investors
are focused on the United States, for obvious reasons. But another country
has also been showing some life recently, and its economic recovery could
have significant repercussions for the United States ó not all of
them good. That country is Japan.
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- For some, growth in Japan might seem unbelievable, like
a 40-year-old man suddenly getting taller overnight.
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- For the past decade, Japan has been the poster child
for economic stagnation, the product of a housing and stock market bubble
that exploded, exacerbated by a creaky financial system.
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- Even stagnation was a step up for Japan, considering
its economy actually shrank for much of the 1990s. But over the past six
months or so, this perennial laggard has shown signs of growth, to the
point where some believe it could be a sustainable recovery (although skeptics
point out that others have felt the same way in the past, only to see these
previous "recoveries" fall apart).
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- Japan's economy grew by 3.2 per cent last year, its best
performance since 1996, and GDP rose at an annual rate of more than 6 per
cent in the first quarter. Its trade surplus climbed by more than 50 per
cent in the first three months of the year.
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- The main engine for this expansion is China, which is
consuming as much raw material and industrial equipment as Japan can produce,
just as it is gobbling up the commodities Canada produces. But there are
also signs of growth in domestic demand: Household spending in Japan climbed
by 7.2 per cent in April, the fastest rate in more than 20 years.
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- The markets seem to believe in the recovery. Although
it fell back somewhat in May (on concern that China's red-hot growth might
slow), the Nikkei market index climbed above the psychologically important
12,000 mark in April ó the first time since 2001 ó and is
up 50 per cent since August.
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- Meanwhile, the yield on 10-year government bonds has
almost quadrupled in the past year. "That's a signal to me that this
trend may be for real," Mark Kiesel of giant bond fund manager Pimco
told The Wall Street Journal recently.
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- All of which could spell trouble for the U.S. economy.
Why? Because Japan owns more U.S. debt than any other country. Its currency
reserves are the largest in the world at more than $800-billion, and most
of that is in U.S. dollars. According to one estimate, Japan bought 85
per cent of all U.S. government debt issued in the first quarter this year.
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- Japan's insatiable appetite for U.S. debt has been driven
by its desire to keep the yen low in relation to the U.S. dollar, in order
to stimulate the economy (by making its exports cheaper compared with other
nations).
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- So it has sold trillions of yen ó a record ·20-trillion
($182-billion U.S.) last year alone ó and bought billions of dollars
worth of U.S. assets, mostly short-term government bonds.
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- That buying has helped finance the U.S. government's
twin deficits: the budgetary deficit, estimated at more than $500-billion
this year, and the equally massive current account deficit (the gap between
the value of U.S. exports and imports). In a real sense, Japan has become
the U.S. government's banker.
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- By financing these massive deficits, Japan's buying has
also kept U.S. bond yields low (since yields move lower as bond prices
rise), and that in turn has helped the U.S. economy. Some analysts believe
that without Japan's help, the yield on the 10-year U.S. bond might be
as much as two percentage points higher than it has been, which would result
in slower growth.
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- As Japan's economy strengthens, Mr. Kiesel says, "there's
going to be less need for the Bank of Japan to intervene" to keep
the yen low, which means fewer dollars that will be spent on U.S. Treasury
bonds.
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- So what happens if Japan slows its buying, even a little?
That's a ticking time bomb lurking at the core of the gargantuan U.S. budget
and trade deficits, and it comes at a time when bond and stock markets
are already twitchy about an end to the days of easy money.
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- © Copyright 2004 Bell Globemedia Publishing Inc.
All Rights Reserved.
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