Friday 9 May 2008

Japanese Example

Repeat of Japanese Example

When discussing the advantage that the US economy will get from a weaker currency, the existing example of Japan is forgotten.

Japan also tries to maintain a low currency, for it aids exports. Japan however has a few natural advantages over US when it comes to such activities.

A low currency has the disadvantage that is increases import price. And if a country is not naturally well-endowed, a rise in international commodity prices can play havoc with its inflation rate.

However, Japanese population growth is well under control, and the personal consumption rates are also stable. This gives their policy makers the freedom to treat the internal economy as a constant. So, beyond a particular point, they can devote their energies to managing their ‘external’ economy – in other words, the currency rate.

It was this relative freedom from internal constraints that enabled the Japanese to keep interest rates low for such a long time.


HISTORICAL SIMILARITY
An interesting feature of the present US dilemma is that it is a repeat of what happened in Japan almost two decades ago.

The Japanese real estate prices inflated to such an extent in the late-80s that it was rumored that the land of the Imperial Palace in Tokyo was worth more than entire California.

The subsequent crash led to a decade long economic depression.

Japan eventually found its salvation when it discovered low interest rates, and maintained 0.25% since 1997 until February 22, 2007.

The low interest rates not only gave an unnatural export advantage to the Japanese economy, which suffers from an aging population, but also insulated its domestic markets from foreign competition.

America seems to have discovered the same panacea. But it is still too soon to say which way the bamboo will fall, because there still is one crucial difference in the two economies.


AHISTORICAL DISSIMILARITY
Japanese economy was driven by re-investment. The collapse of its real-estate and stock markets deprived its corporations of the wherewithal to invest, and led to the emergence of corporations from its long-standing rival South Korea.

US economy is consumption driven. The collapse of its real-estate and stock markets (not to mention the high fuel prices) will drive down consumption – and consequently the profits of all those companies whose ultimate customer is found in the US.

Rather than lead to the emergence of new rivals, this crisis is likely to have a Boa-like strangulation on (US-focused) companies across the world.

This will eventually have a sobering effect on raw-material prices.

The medium term outlook for raw-materials (perhaps excluding energy) is bearish, given the fact the bottom has been knocked out of global consumption.

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