Saturday, February 27, 2021
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Japan’s sharemarket finally emerges from three lost decades

Japan’s sharemarket finally emerges from three lost decades
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The 1987 sharemarket crash and rising global interest rates, however, exposed the flimsy foundations of the Japanese “miracle” economy, built on cheap state-directed credit, a suppressed exchange rate, hidden subsidies for its exports and pervasive non-tariff barriers to imports.

It turned out it was a “bubble” economy. Where at the peak of Japan’s apparent success a three square-metre sliver of land near the Imperial palace in Tokyo famously sold for $US600,000, property prices imploded, crashing nearly 70 per cent over the next decade.

Its sharemarket plunged 60 per cent in two years and continued to fall, losing more than 80 per cent of its peak value, until global markets bounced in 2009 as they recovered from the 2008 financial crisis.

Decades of stagnation

The plunge in equity and property markets and the decades of economic stagnation were exacerbated by the nature of Japan’s economy and its incestuous corporate system, where groups of allied and integrated banks, trading houses and industrial businesses – once known as zaibatsu – dominated the financial system and economy.

When the bubble burst, the banks and securities houses at the centre of these conglomerates were decimated, but they were so central to the Japanese economic model – far too big to fail — that they were propped up and bailed out.

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They were, however, for years effectively “zombie” banks and institutions, reluctant or unable to lend and, even though successive Japanese governments tried to re-start the economy through near-zero interest rates and the pioneering of quantitative easing, along with heavy infrastructure spending, the economy remained stagnant for decades.

It was the Japanese experience and the fear of similar deflation and stagnation that framed the Federal Reserve Board and European Central Bank responses to the 2008 financial crisis – massive injections of liquidity, near-zero interest rates and repeated rounds of bonds and mortgage buying – and, more recently, their reactions to the coronavirus pandemic.

Japan still has ultra-low interest rates – its two and five-year bond yields are negative; it’s 10-year bond yield is 0.09 per cent and its 30-year bond yield 0.68 per cent – and the Bank of Japan owns about 10 per cent of its sharemarket after hoovering up securities in exchange-traded funds.

Signs of life

The economy – which flat-lined through most of the post-crash decades — is, however, finally showing signs of life.

Growth in exports and consumption in the December quarter last year produced GDP growth 3 per cent higher than in the same period of 2019. Corporate profits and margins are at post-bubble highs, Japanese balance sheets are strong and its major banks now rank with the world’s strongest.

Parallels could be drawn, or at least lessons learned, from Japan’s experience over those lost decades.

In the post-crisis period the rest of the developed world has experienced sharemarket and property booms – some would argue bubbles – driven by the torrents of near-costless liquidity and credit flowing from the unprecedented and unconventional central bank post-crisis policies and, more recently, the massive injections of new monetary and fiscal stimulus to counter the economic impacts of the pandemic.

Armies of zombies

The Fed and ECB policies have effectively created armies of zombie companies – companies that would fail if interests costs weren’t so negligible – and economies addicted to cheap credit and increasingly sensitive and vulnerable to its withdrawal.

There’s no obvious painless exit path from the settings now in place other than either a dramatic, Japanese-like implosion in asset values, with dire economic consequences – or a further very lengthy period, perhaps decades, of weak productivity and economic growth sustained by more of the same from central banks and governments.

The Japanese experience perhaps provides a perspective on China’s remarkable emergence as an economic power.

China’s economy, as Japan’s was in the post-war period, is centrally planned and directed and there is a similarly incestuous relationship between the state and large slabs of its largely state-owned industry.

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Like Japan during the 1970s and 1980s, China’s growth has been accompanied by accusations of government subsidies, industrial-scale industrial espionage, intellectual property theft and other unfair and protectionist trade practices.

Its growth has also been fuelled by leverage and asset bubbles – something it has been trying to address – and less-than-productive economic activity, particularly within the state-owned sectors of the economy.

Like Japan, before its bubbles burst and the perceived threat receded, China’s successes and their nature – and its increased willingness to openly express its economic and geopolitical ambitions — are also inciting an aggressive/defensive response from the US and some of its allies.

The foundations of China’s success, like Japan’s in the 1980s, aren’t quite as robust as they are presented by its authorities, although the authoritarian nature of its governance perhaps provides Xi Jinping a greater ability to de-leverage China’s financial system and restructure or purge China’s own army of zombie enterprises .

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