After a relatively quiet trading day in US equity markets yesterday with the Dow Jones Industrial Average falling 12 points to 11,113 we later saw the Japanese Nikkei fall by 163 points to 9202. Regular readers will know that one of the themes I have been following is the underperformance of the Japanese stock market over the spring/summer of this year. As the spread between the Nikkei and Dow Jones is now some 1911 points or 20.7% of the Nikkei’s value I can say that this is the widest gap I have seen during this period.
What is happening in Japan’s economy to cause this?
One factor has been the strength of the Yen exchange rate which has been very strong this year and in fact so strong that the Bank of Japan intervened in currency markets on the 15th September to try to stop its rise. This morning Yen strength has returned with it rising to 80.63 versus the US dollar,however in additon it is also now rising against the Euro having gained 1% overnight to 111.69. So we are getting something of a double-whammy effect today as recently Euro strength had been helping the Bank of Japan.
If we look at today’s economic statistics out of Japan we also see two worrying signs. One feature of Japanese life has been the way she has suffered from disinflation or falling prices at times in her “lost decade”, and one can add one more month to the list as September’s figures showed that consumer prices excluding fresh food (the Bank of Japan’s preferred measure) fell by 1.1% fmaking it 20 negative months in a row. To add to this industrial output fell 1.9 percent in September from August and a report was released suggesting that further falls in output are planned for this month.Whilst the unemployment rate did improve from 5.1% to 5% there are now concerns that this quarters economic growth may be negative rather than positive.
I have a section on Japan’s economic situation and this mornings figures are a reminder of the problems I have higlighted there. Japan seems unable to shake them off and if this situation persists then the longer-term problems she has will drag her down. For example she has an ageing and indeed shrinking population. Now long-term forecasts on this need to be taken with a pinch of salt but should current trends continue she will have a population that has fallen from around 130 million to 50 million at the turn of the next century. When you have a national debt to economic output ratio of over 200% such falls have strong implications for the future.
In reply the Bank of Japan is talking of more Quantitative Easing in spite of the fact that the QE it has enacted has had poor results at best. It plans for around 5 trillion Yen or US $61 billion worth but it seems simply too small to have much of an impact. Those who feel that QE affects asset prices will feel that perhaps the difference in scale between proposed QE between the US Fed. and the Bank of Japan is at least a partial explanation of differing stock market performance.
If you think about that then you are left with two unpleasant scenarios at this time. You have Japan with its chronic problems which it does not seem to be able to escape or you have the United States where its central bank is creating something of a false market in asset prices and ignoring the lesson that in the one country with real experience of QE it has not helped much if at all.
A Currency Manipulation Index so trade sanctions can be brought against the US?
The Brazilian Finance Minister Mr. Mantega who came up with the phrase “currency wars” has come up with a new interesting thought. Mr. Mantega wants the International Monetary Fund to construct an index to measure who is manipulating their currency, in other words to identify who is keeping their currency artificially low to boost exports. To give you an idea of where he is heading let me quote his words.
In fact, the World Trade Organisation considers currency manipulation to be a commercial subsidy that has to be avoided and could result in sanctions.
So many countries are currently involved in currency manipulation that he is unlikely to succeed. As when the Financial Times tried to count them recently it counted 25, but it does highlight how the issue of currency wars are spreading. I wrote on the subject of echoes of the 1930s in this trend on the 23rd September and I have to confess the images and thoughts it inspires send a chill down my spine. I hope that the phrase history repeats itself is wrong.
The Peripheral Euro zone nations
There were further developments yesterday to follow-on from my update on this subject. For once Greece was not particularly the centre of attraction as her ten-year government bond yield only edged higher to 10.5%. However Irish government bond yields surged and whilst this coincided with a speech from her Prime Minister I do not think that this was the cause. The real cause came from an interview on RTE given by the Chairman of Anglo-Irish Bank in which he said.
Ireland needs a second state-owned bad bank, the chairman of Anglo-Irish Bank said today……………Mr Dukes said even after NAMA had finished its work, the banks would still be left with distressed assets.
Just to give you an idea of the scale of the potential problem estimates of commercial property lending which remains outside the first NAMA are around 70 billion Euros. Now if you factor into this that the Chairman of Anglo-Irish is plainly telling us there are problems with these loans then several issues arise. For a start Anglo-Irish was only restructured last month! I know that bad news from the Irish banking sector drips out slowly and we are never told the truth but this is a particularly poor development.
A second NAMA would have severe implications for Ireland as a sovereign nation and the burden she will have to carry for the forseeable future. I discussed on the 27th of this month that the Irish government has indicated that a further 15 billion Euros of fiscal austerity will be needed in the next four years. Well if the Chairman of Anglo-Irish is correct then that will be an under-estimate. The Irish government bond market fell heavily on the news following on from a poor week. The ten-year yield closed at 6.78% and the yield on her shortest maturity of November 2011 rose above 3% again to 3.19%. Sometimes the shortest dated maturities are the most revealing, particularly at a time of low official interest-rates.
Portugal’s government was to be found boasting that China might invest in its government bonds and that foreign investors now owned around 40% of her government bonds. Someone should perhaps point out to them that foreign investors usually invest as much for expected currency gains as for yield so should investors expect the Euro to drop he may not turn out to be quite so proud as they sell! Indeed the reality was that her ten-year government bond yield ignored such “success” and rose above 6% to 6.07%.
Europe’s problems with austerity
Having watched with a little bemusement at the way the European Parliament passed a bill for a 6.9% budget increase in a time of supposed austerity, I had several thoughts. Firstly we plainly have elected a group of people to this Parliament who do not believe the current buzz-phrase of “we are all in it together”. Indeed they are showing signs of being even more out of touch that I thought they were…
However there is a darker thought. Are we being played Sir Humphrey Appleby style? Propose an increase of 6.9% which you do not really believe you will get,but Jim Hacker, excuse me Europe’s politician’s can appear fiscally austere by restricting you and you end up with a still much too high 2.9%%! So the bureaucrats get pretty much what they want and the politician’s can make some soundbites and the music plays with Sir Humphrey ending the episode with the usual refrain of “Yes Minister.” Everybody in the episode is happy that the obvious objective of no increase at all has been safely ignored. Oh everybody but the hard-pressed taxpayers of Europe who are likely to find themselves paying yet higher sums to individuals who sometimes are exempt from tax.
Meanwhile back in the real world unemployment in the Euro zone rose to 10.1% with a further 67,000 jobs being lost in September. Just to add to the gloom inflation rose to 1.9% as well. German retail sales also fell 2.3% in September but caution is required here as retail sales can be an erratic series.