naked capitalism

Deflation, anyone?

One of the staples of Japan’s lost now two decades has been an unrelenting squeeze on worker wages and work conditions. New graduates used to get full time jobs. Now man are “freeters” in a sort of temp purgatory. And given how important social networks are in Japan, the lack of a real position and an assured wage is far more stressful than it is in the US. And young men in this fix are not viewed favorably in the marriage market either.

Even workers that have jobs have dim prospects. Japan was never a place for big pay, but most workers could expect a reasonable progression over their careers. Because Japanese companies have tried to preserve employment, they have wound up cutting raises to more senior managers. How would you feel about a career path that had you taking on more responsibility and stress for pretty much no more money? But you can’t quite because the alternatives are worse.

The US version, as set forth by Louis Uchitelle, does look worse: you do the same job for less money. And not a little less money, but in some cases, a lot.

I do find it a bit odd that Uchitelle used a pilots as his case example, as did Michael Moore in Capitalism:
A Love Story. This might have been sheer coincidence, but if not, Uchitelle should have made some reference to Moore.

From the New York Times:

[Bryan Lawlor] is now in the co-pilot’s seat in the 50-seat commuter jets he flies, not for any failure in skill. He wears his captain’s stripes, he explains, to make that point. But with air travel down, his employer cut costs by downgrading 130 captains, those with the lowest seniority, to first officers, automatically cutting the wage of each by roughly 50 percent — to $34,000 in Mr. Lawlor’s case.

The demotion, the loss of command, the cut in pay to less than his wife, Tracy, makes as a fourth-grade teacher, have diminished Mr. Lawlor, 34, in his own eyes…“I don’t want to be a 50-year-old pilot earning $40,000 a year,” he said, adding that his wife does not want to be married to a pilot with so little earning power….pay cuts, sometimes the result of downgrades in rank or shortened workweeks, are occurring more frequently than at any time since the Great Depression.

State workers in Georgia are taking home smaller paychecks. So are the tens of thousands of employees in California’s public university system. The steel company Nucor and the technology giant Hewlett-Packard have embraced the practice. So have several airlines and many small businesses.

The Bureau of Labor Statistics does not track pay cuts, but it suggests they are reflected in the steep decline of another statistic: total weekly pay for production workers, pilots among them, representing 80 percent of the work force. That index has fallen for nine consecutive months, an unprecedented string over the 44 years the bureau has calculated weekly pay, capturing the large number of people out of work, those working fewer hours and those whose wages have been cut. The old record was a two-month decline, during the 1981-1982 recession.

Yves here. What is striking (per the earlier comment, that Lawlor’s wife does not want to be married to a now inferior earner) is how deeply ingrained the “my paycheck is my worth as a man” ethic is ingrained. Lawlor is concerned his kids will think less of him if they get less under the tree at Christmas. He has been depleting his savings to keep up appearances with his own children! This is truly sick:

Bryan and Tracy Lawlor, who is also 34, have hidden their straitened circumstances from their four young children, mainly at his insistence. But as their savings dwindle, Christmas, a key indicator in the Lawlor family, will mean fewer presents this year. The Lawlors have made a practice of piling on toys and new clothes for their children at Christmas, buying relatively less the rest of the year. That will make a cutback noticeable this holiday season, and the parents are concerned that their children will begin to realize why.

“You don’t want to see disappointment on their faces; that makes me feel horrible,” Mr. Lawlor said. “You can be the best pilot in the airline and make the best landings, and in their eyes, I am not going to be as important as I was.”

Yves here. My father got a second graduate degree very late, when I was six years old, and quit his job to pursue it full time. I can look back on our Christmas photos and see that the pile under the tree was smaller those two years than before or after. I have NO recollection of being disappointed. In fact, one of my all time favorite presents was the sled I got that year. But that was more than 40 years ago, and kids have been trained to become smarter consumers in the meantime.

In fairness, the wife was interviewed at length, and she seems better reconciled to their situation than he is:

One year later, even after such a big pay cut, Mrs. Lawlor sees her husband’s shorter commute to his new base at Newark as a blessing she is reluctant to give up. Her husband says that moving back up to captain, with a captain’s pay, might mean commuting again to California. “If that is what it takes, I’ll do it,” he said, and this time his wife winced.

“I would probably not be happy,” she said. But she “wouldn’t trade him for another husband,” as she put it, and while she had never wanted her husband to be a pilot, at this point she would be alarmed if he left aviation in an attempt to please her.

“He likes what he does,” she said, “whereas before he did not like what he did. That has made him easier to be around, whereas before he became a pilot, he wasn’t happy at all.”

But the fact that she has even though of whether she would “trade him in” is telling. What has happened that Americans are so ill equipped to deal with adversity? Although a New York Time story is a very artificial window, one can imagine with Lawlor’s job that his social network beyond his family and co-workers is limited. Pilots work schedules that put them out of synch with most 9 to 5 (or 7) types. And that has become endemic in the US as most jobs have become more demanding and community ties have weakened. Weak or thin social networks are strongly correlated with lower mental health scores.

In other words, the US has unwittingly done a great job of conditioning many of its citizens to be even more dependent on their standing at work than they otherwise would be.

Contrast that New York Times story with the lead item at the Wall Street Journal, “Wall Street on Track to Award Record Pay“:

Major U.S. banks and securities firms are on pace to pay their employees about $140 billion this year — a record high that shows compensation is rebounding despite regulatory scrutiny of Wall Street’s pay culture.

Workers at 23 top investment banks, hedge funds, asset managers and stock and commodities exchanges can expect to earn even more than they did the peak year of 2007, according to an analysis of securities filings for the first half of 2009 and revenue estimates through year-end by The Wall Street Journal.

Total compensation and benefits at the publicly traded firms analyzed by the Journal are on track to increase 20% from last year’s $117 billion — and to top 2007’s $130 billion payout. This year, employees at the companies will earn an estimated $143,400 on average, up almost $2,000 from 2007 levels.

By George Washington of Washington’s Blog.

You know all about the subprime, alt-a, option arm, and commercial real estate crises.

You’re well-aware of the house of cards built with credit default swaps, securitized assets and other exotic investments.

You’ve heard about the massive debt overhang threatening individuals, companies and the country as a whole, and the massive de-leveraging which is still to occur.

You’re aware of the soaring unemployment rate, the tapped out consumer, and many other economic problems.

But do you know about the demographic crisis?

What Demographic Crisis?

Franco Modigliani won the Nobel Prize in Economics 1985, partly for his “life cycle hypothesis“, which states that spending and savings patterns are predictable and largely a function of age demographics. In other words, Modigliani’s hypothesis is basically that age demographics largely determine the health and robustness of an economy.

Harry Dent and other financial advisors who have examined American demographics say that we’re in big trouble.

Specifically, they say that the basic health of any country’s economy is largely driven by the number of its citizens who are in their peak spending years.

For example, the peak Japanese spending range has been estimated to be comprised of 39-43 year olds. The more 39-43 year olds Japan has at any given time, the more consumer spending there will be, as these are the folks who are the big spenders in Japan. Dent argues that the Japanese economy will tend to grow when the number of 39-43 year olds grows, and to shrink when it shrinks.

Dent says that this principle applies to all countries, although the peak spending years might vary slightly from country to country.

In the U.S., Dent says, 46-50 year olds are the biggest spenders, because that is when – on average – they are paying for their kids’ college, paying mortgage on the biggest house they will own during their life, and making other big-ticket purchases.

Claus Vogt agrees, saying that – all other things being equal – the country with the youngest population will experience the biggest growth in the future, as it will have the highest percentage of productive people in the days ahead (Modigliani’s age categories are somewhat different from Dent’s and Vogt’s, but – in general – people are having children later than they were in 1985).

Whether or not you believe Modigliani , Dent and Vogt, it should be obvious that countries with a large percentage of elderly people and a small proportion of productive workers will have less productive output and a larger demand for social services than those with a higher percentage of workers. It should also be obvious that this will tend to drag down the economy.

Which Countries Have the Most Favorable Demographics?

Which countries have the best demographics?

Let’s start by looking at the “age pyramid” for the United States. The following 2 charts from the National Institutes of Health shows that the population is aging:

This graphic (courtesy of Ed Stephan) shows the U.S. age pyramid from from 1950 through 2050:

male	female
Population of the United States, by Age and Sex, 1950-2050 (millions)
information source: International Data Base, U.S. Census Bureau; supplied pyramids were modified using Canvas, GraphicConverter and GIFBuilder.

[If you can't see the dates at the bottom of the pyramid, click here].

As NIH notes:

The first of the postwar baby boom cohort, born 1946–1964, will turn 55 years in 2001. In just three decades, an extraordinary change in the age structure of the United States is anticipated. By 2030, one in five persons (20% of the U.S. population) will be aged 65 or older, increasing from the present ratio of one in nine persons (12.8%). The number of persons in the 65 and older age group will more than double, increasing from the current 34 million persons to 70 million persons. Moreover, within the older segment of the population, because of longer life expectancy and additional persons reaching older ages, there will be age shifts resulting in the 85 and older population more than doubling in size from 4.3 million persons to approximately 8.9 million persons.

An aging U.S. population means less productive workers, less big-spending consumers, and more dependent elders.

Here’s China:

Brazil has a much younger age demographic.

And India’s is even younger than Brazil’s.

The following chart shows that Japan has the worst demographics of all, with a staggering percentage of elderly who need to be taken care of by the young:

Chart 2: Old Age Dependency Ratios for Selected Countries

Source: http://data.un.org/

And this chart shows that – as a whole – emerging markets have a higher percentage of working age population:

Chart 3: Working-Age Population as % of Total Population

Source: http://data.un.org/

You can find some interesting charts showing age pyramids for multi-country regions here. You can search for other countries or regions, as well.

What Does It Mean?

What does all this mean?

Well, initially, it means that – in addition to everything else they have going for them – 2 of the BRIC countries (Brazil and India) have much more favorable demographics than the United States. So they are at a competitive advantage to America for demographic reasons in addition to the other reasons that people write about.

Indeed, as Richard Jackson told the White House Conference on Aging in 2005:

If demography is destiny, global leadership may pass to the “Third” world…

Countries with slowly growing workforces may have slowly growing economies…

We live in an era defined by many challenges, from global warming to global terrorism.

None is as certain as global aging.

And none is likely to have such a large and enduring effect on the shape of national economies and the world order.

Moreover, Dent and another of the main writers focusing on the economic effect of age demographers – Daniel Arnold – say that America’s aging demographics point to a major depression.

As Arnold writes:

I hope that he’s wrong.

See also this and this.

Note: Of course, different levels of development and technology also substantially affect the economy.

Whoops, that was the old brand, and it was to be led by Japan. The results were less than happy since Japan was not prepared to take “no” for an answer.

But this time around, necessity as well as opportunity are leading China, Japan, and Korea to discuss moving forward on closer economic ties. In fact, the driver for talks appears to be more than a tad of desperation of the Japanese.

The US has been opposed to anything more than symbolic movements on this front. For instance, in the 1997 Asian crisis, Japan wanted countries in the region to lead rescue efforts. That idea was opposed, forcefully, by Robert Rubin, Larry Summers, and Timothy Geithner, who was then at the IMF but slotted to join the Treasury. And we know how that movie ended. The IMF “reforms” were the same template they had used for Mexico, and was inappropriate in key respects for high-savings Asian countries. The Asian tigers’ resentment of punitive and painful programs led them to institute currency pegs at artificially low rates so they could build up their reserves. China held its peg during the crisis at US request, reinforcing its use of pegs (and one can further argue that the low rates implemented in the crisis countries gave China plenty of cover to maintain its peg even as its currency became increasingly undervalued).

It is still not clear how serious this move is. There has been talk for some time of beefing up ASEAN (for instance, having it have its own development bank as an alternative to the World Bank). This initiative is outside ASEAN and is in the brave talk stage. The biggest potential obstacles is long-standing distrust among the principal actors. That may be compounded by China trying to assert a leadership role, which is understandable given its economic position, but diplomacy is not yet one of China’s strengths.

From the Telegraph :

The three countries, dismayed at falling levels of trade and investment from the US and Europe, met in Beijing to plan for more structured levels of co-operation.

The move came as HSBC warned there is likely to be a “shift in the world’s centre of economic gravity from West to East”. The bank has already decided to move its chief executive, Michael Geoghegan, from London to Hong Kong next February to prepare for Asia’s ascendancy.

Wen Jiabao, the Chinese prime minister, and his Japanese and South Korean counterparts, Yukio Hatoyama and Lee Myung-bak, said the three countries were “committed to the development of an East Asia community”, similar to the European Union.

The idea, which is being strongly pushed by Japan, could eventually lead to a free trade block and co-operation on public health, energy and the environment….

The proposals are in their early stages, and the three countries emphasised that it was a “long-term goal”. Liu Changli, a professor at China’s North East Finance University, said a free trade area could be in place “by 2020, on a best-case scenario”. He added: “Add another five to 10 years for an economic union and a further five to 10 years after that for a true economic, military, political and cultural union”.

The proposals come as Japan is struggling with the collapse of its export sector, a key motor of its economic growth. Since Mr Hatoyama was elected at the end of August, he has been searching for a way to kick-start the economy and alleviate the country’s debt, which currently stands at 283pc of GDP, the highest of any G20 nation….

South Korea’s ties with China have also weakened, with substantial Korean populations in Beijing and Shanghai returning home because of the downturn.

Both countries now see China’s booming economy, which is set to grow by at least 8pc this year, as a beacon of hope. China, for its part, has a long-term strategy of reducing its dependence on the West and building political and economic ties with Russia, the Middle East, Africa, Latin America and Asia. It has already signed a bilateral free trade agreement with ASEAN, the coalition of South East Asian nations, which is due to come into full effect next year.

However, any attempts by the three nations at closer integration are likely to be opposed by the US, which is concerned about any waning of its influence in the Pacific.

Japan’s role in this is a clear statement of diminished US power. Japan is a military protectorate of the US. For at least the last three years, if not longer, Japan has been playing a very careful game between the US and China. It appears to have decided it has little to lose in seeking to throw its lot in with China.

T. S. Eliot was right. Human beings cannot stand very much reality.

As much as I have an appetite for bearish views (I figure the optimist case gets disproportionate air time), the headline of Ambrose Evans-Pritchard’s latest piece, “Our quarter-century penance is just starting,” is grim even by the standards of the bearish faithful.

Evans-Pritchard, as usual, marshals some persuasive information:

“The current financial crisis is unlike any others,” says the Bank for International Settlements. Lasting damage has been done. The “cumulative output loss” is likely to reach 20pc of GDP in the major economies.

The message is the same at the International Monetary Fund. “The world is not in a run of the mill recession. The crisis has left deep scars. In advanced countries, the financial systems are partly dysfunctional,” said Olivier Blanchard, the Fund’s chief economist.

Mr Blanchard said an IMF study of post-War banking crises led to an unpleasant finding. “Output does not go back to its old trend path, but remains permanently below it.”….

All that has happened over this crisis is that huge private losses have been dumped on society: but the losses are still there, smothering the economy…”As long as economic growth relies on the state, you cannot talk about durable recovery,” said European Central Bank member, Yves Mersch…

We know what caused this crisis. The West kept short-term interest rates too low for a quarter century, luring society into debt: and the East held down long-term rates by flooding bond markets as a side-effect of their mercantilist strategy (ie suppressing currencies to gain export share).

The outcome was over-investment, excess capacity, and too much debt among those supposed to buy the goods. Has any of this changed? No. Have we cleared the excess plant? No.

Jeff Wenniger from Harris Private Bank says an army of baby-boomers have seen their old age plans shattered by the housing bust. Their nightmare is here. They will have to spend less, and save more. “Generational destruction of a society’s balance sheet down not rectify itself in a matter of months”.

Evans-Pritchard takes issue with Paul Krugman’s call for more fiscal stimulus. Evans-Pritchard instead recommends quantitative easing, not as a solution per se but to prevent deflation from taking hold.

I’m not keen about either approach, at least in isolation, The idea of pushing more money through the same unreconstituted systems is likely either not to work or if it is done on a sufficient scale, to produce a reversion to the behaviors that led to the crisis, with the similar, or even worse results (since the underlying debt will be even larger).

I am struck by the insistence of looking at complex phenomena like the Great Depression and Japan’s lost two decades and believing that a single remedy can pull us out of this mess (to his credit, Evans-Pritchard does have low expectations for his suggestion). There is too much willingness among some economists to attribute the substantial improvement by 1936 solely to fiscal stimulus. The early years of the Depression also saw substantial debt defaults and writeoffs (even if they are now deemed to have been a policy error, to analyze the Depression without considering their elimination on the trajectory of the upturn is incomplete).

Similarly, the Great Depression also featured substantial banking and securities reforms, other mechanisms to encourage debt restructuring (the HOLC). We have almost the reverse situation now, with no ready way to restructure or renegotiate mortgages owned by securitization vehicle. Thus while a fair number of debts were resolved in the Great Depression, albeit many brutally and at unduly high cost, we have almost the polar opposite, at least as far as mortgages are concerned, with loans that should be renegotiated instead kept in force, banks refusing to foreclose on houses, to avoid recognizing the loss and even in cases to keep the owner as the party liable for property taxes.

The Japanese have warned us that restructuring the financial system and cleaning up bad debts needed to be the top priority. But US economists decided we understood the Japanese malaise better than they did and refused to heed their advice. Right now, the mood among many in the profession seems self-congratulatory, that they successfully steered the economy off the shoals (of course forgetting that that the economy that foundered in the first place had been redesigned in line with orthodox beliefs).

We’ll see in a few months how viable the “green shoots” prove to be.

From derivatives expert Satyajit Das of Traders, Guns & Money fame:

In the 1980s, the Japanese were taking over the world. In the 1990s, it was going to be an ‘Asian’ century. These days the pundits are betting on the ‘Chinese Age’. Like all such glib predictions, despite their superficial appeal, they mask complex undercurrents and issues that require careful study.
Michael Schuman, a business journalist, in ‘The Miracle: The Epic Story of Asia’s Quest for Wealth’ tries to describe the transformation that has taken place in Asia over the last 30 years. Schuman covers the post-war reconstruction built on electronics and heavy industry through to the age of outsourcing. The story is personalised and ‘The Miracle’ is at its best when recounting rich anecdotes about the politicians, such as Deng Xiaoping and Park Chung Hee, and business leaders, such as Sony’s Akio Morita and Wipro’ Azim Premji. Schuman’s snappy journalistic style adds colour and insight to the stories.

The Miracle traces the importance of globalisation of trade and capital flows as well as the role of America in the development of Asia. It perhaps understates the less than benign role played by the state in fostering economic development. The Book also is very forgiving of the political repression, social in-equalities and environmental degradation that underpin Asian development.

The defence would probably be that there are always costs to dragging millions out of poverty. In truth, the average business book reader would not be particularly concerned about those issues.

Paul Midler’s ‘Poorly Made in China’ offers a different perspective that is loquaciously captured in the lengthy sub-title ‘An Insider’s Account of the Tactics Behind China’s Production Game’ (obviously a Twitter marketing ploy!). A businessman who has worked in numerous factories in China, Midler provides interesting and, at times, scarily funny insights into a system that produces products that fail basic safety and manufacturing standards.

Midler identifies the process by which buyer demand for cheap products and the Chinese manufacturers willingness to meet the requirements lead to what he characterises in the chilling anodyne term – ‘quality fade’. This is the process by which manufacturers take increasing liberties with quality to eke out profits from unprofitable contracts. This entails cheaper components, altering chemicals, lower hygiene standards and, in general, lower everything.

Midler describes the process whereby manufacturers compete to gain unprofitable contracts to make sought after products. The sole reason is that access enables Chinese manufacturers to gain access to intellectual property allowing the manufacture of lucrative ‘knock-offs’ in places where patents and trademarks cannot be enforced.

Midler acutely records the tensions between buyer and manufacturers and the entire flawed system where ultimately the only true product control and testing is by the final consumer, sometimes, as in the case of the melamine contaminated milk, with tragic consequences

‘Poorly Made in China’ provides an interesting alternative to the hagiographic view of globalisation and trade much favoured by the Thomas Friedman’s of the world.

Underlying both ‘The Miracle’ and ‘Poorly Made in China’ is a view of the emerging world best captured by the term ‘Orientalism’, associated with Edward Said. A Palestinian academic, Said’s writings on colonialism explored the caricatures, cliches and pre-conceptions that shaped Western perception and therefore relationships with Eastern nations. Said’s argument was that the West’s view of the East was shaped by political power and unequal commercial exchange.

Said’s work built on George Orwell’s criticism of colonialism. Writing in 1939, Orwell provided a vivid and stark view of the developing world that has rarely been equalled: “When you walk through a town like this – two hundred thousand inhabitants, of whom at least twenty thousand own literally nothing except the rags they stand up in – when you see how the people live, and still more, how easily they die, it is always difficult to believe that you are walking among human beings. All colonial empires are in reality founded upon the fact. The people have brown faces – besides they have so many of them. Are they really the same flesh as yourself? Do they even have names? Or are they merely a kind of undifferentiated brown stuff, about as individual as bees as coral insects? They arise out of the earth, they sweat and starve for a few years, and then they sink back into the nameless mounds of the graveyard and nobody notices that they are gone. And the graves themselves soon fade back into the soil.”

The unwritten sub-text is that the East is there as a resource for the West. Developments are read and interpreted through the cultural lens of Western literary and economic tradition. ‘The Miracle’ and ‘Poorly Made in China’ are books in the ‘Orientalist’ tradition, which sees Asia as little more that a vast market, a cheap manufacturing base, (recently) a source of money and an opportunity for developed nations. The books never quite see the world from the point of view of the nations and people that they describe.

‘Prisoner of the State’, the secret journal of former Chinese Premier Zhao Ziyang, provides something of an antidote to a Western view of East Asia.

Remembered now mostly for his disastrous role in the Tiananmen Square student protests and subsequent massacre, Zhao Ziyang was Premier of the People’s Republic of China from 1980-1987, and General Secretary of the Communist Party from 1987-1989. He was involved, with Deng Xiaopeng, in the economic reform of China. Produced from smuggled tapes during his house arrest after being removed from power as a result of his role and handling of the Tiananmen Square protests, Zhao produced a memoir covering details of the crackdown, the intricate manouverings of China’s leadership, and the economic reform program.

While the focus around the book has been on the sensational events around the protests and subsequent crackdown, ‘Prisoner of the State’ provides interesting insights into the rationale behind China’s economic reforms.

Anecdotes of Zhao’ overseas trips, where he begins to gain exposure to the glittering riches of overseas economies, provides a vivid backdrop to the changes in economic policy. The interest in reforms appears driven entirely by pragmatic rather than ideological concerns, such as declining living standards, concern about food security, observed inefficiencies in productivity and fear that economic failure would mean political ruination.

Zhao’s notes were clearly predicated on ‘his’ version of history. His commentary on leadership struggles and the complex interplay of different individuals and camps are difficult to verify to those without a deep understanding of the inner workings of China. His views on the weaknesses of the system, especially the issue of corruption and the sheer difficult of political and economic management of vast complex country, are extremely relevant. They show the difficulties of making simple predictions about the evolution of China.

The book is illuminated by the hidden tragic sub-text that this is ultimately the story of a man who finds himself a victim of a system that he entirely understands and helped create. In the end, Zhao does not quite understand this irony.

Unlike other books on Asia, ‘Prisoner of the State’, despite its flaws, provides insights not found in traditional perspectives on emerging nations grounded in the simplistic world of ‘El-dollardo Economics’.

Japan may be on the verge of some major shifts, The fact that what amounts to one-party rule in Japan appears at an end ought to be significant, but the proof will be in the pudding. The island nation has been ruled by the Liberal Democratic Party for virtually the entire postwar period, with politics consisting of fights among various party factions.

But Yukio Hatoyama, leader of the opposition Democratic Party of Japan, appears slated to become Prime Minister next month. And, at least on paper, he is firmly renouncing “market fundamentalism” and placing higher priority on social values.

Even more so than in English, it is possible to give speeches in Japanese that sound great but are devoid of content, so the lack of clarity on policies is not surprising. But one has to wonder if this might mean less willingness to accede to US demands. For instance, Japan has quietly playing both sided of the street, aligning with American or China on various issues while taking care not to alienate either party. But US influence is waning. Japan wanted to sponsor Asian-led rescued during the 1997 Asian crisis, but the IMF and US Treasury aggressively beat back the measures. Some of the economies, South Korea in particular, were forced to remake themselves on Western lines. Plans are now moving forward to develop a fund to facilitate salvage operations in the region, If nothing else, if Hatoyama wins and can implement its vision, Japan may become more willing to distance itself from US initiatives and stand with its region.

But many Americans are not willing to see the US as a fading power.

From the Financial Times:

Yukio Hatoyama, the leader of Japan’s opposition Democratic party who is strongly placed to become prime minister after elections this month, has condemned “US-led market fundamentalism” and vowed to shield his nation from the effects of untrammelled globalisation.

With the era of US unilateralism ending and worries about the dollar’s future role growing, Japan should also work towards regional currency union and political integration in an “East Asian Community”, …

Mr Hatoyama offered a robust defence of his political philosophy of yuai – fraternity – which critics have derided as wishy-washy wishful thinking, but which he declared a “strong, combative concept” and “banner of revolution”….

A poll released by the Kyodo news agency on Monday found nearly half the respondents thought Mr Hatoyama most suited to be prime minister, compared with 20 per cent for Taro Aso, the LDP incumbent.

In his essay, Mr Hatoyama said the global economy had “damaged traditional economic activities” while market fundamentalism had destroyed “local communities”…

“Under the principle of fraternity, we will not implement policies that leave economic activities in areas relating to human lives and safety, such as agriculture, the environment and medicine, at the mercy of the tides of globalism,” Mr Hatoyama wrote.

Analysts say that wide policy differences within the often fractious DPJ make it difficult to predict how such statements of principle might be put into practice. Mr Hatoyama highlighted the need for better welfare, more child support and wealth redistribution.

He made clear that while security ties with the US would remain a “diplomatic cornerstone”, Japan must do much more to tighten links with Asian neighbours such as China and South Korea.

“As a result of the failure of the Iraq war and the financial crisis, the era of the US-led globalism is coming to an end and …we are moving away from a unipolar world led by the US towards an era of multipolarity,” the DPJ leader said, adding that fears about China’s military rise were a big factor in “accelerating regional integration”.

Japan should “aspire to the move towards regional currency integration” and “spare no effort” in building the security frameworks needed to make union possible, he wrote, adding that the example of European Union showed that integration itself could be the best way of defusing territorial disputes often seen as an impediment to closer ties.

Comstock Partners has a new newsletter out, and it makes a cogent case that there is no pretty way out of our over-leveraged mess. The disheartening bit is not only the narrative but a series of charts. One, on debt to GDP, show that it has risen in the last year (debt was roughly $49 trillion as of last year, it is not $52 trillion this year). So we have had a lot of economic pain with NO reduction in aggregate indebtedness, This isn’t simply shifting private debt onto the public balance sheet (in effect); this is actually an increase in the underlying pathology.

That debt to GDP chart is controversial, because the comparability of older data to current figures is debatable. But the key message is that debt to GDP shot up after the stock market fall in the Great Depression due to the collapse in GDP. And while large scale deficit spending did help pull the economy out of the rubble, it was also accompanied by large scale debt reduction, via bankruptcies and bank failures (not pretty, mind you) and restructurings. But in this time around, there is perilously little in the way (yet) of restructurings of underlying debt. That does not bode well for recovery.

From Comstock Partners (hat tip DoctoRx):

We are in the process of deleveraging the most leveraged economy in history….this deleveraging as a major negative that will weigh on the economy for years to come and we could wind up with a lost couple of decades just as Japan experienced over the past 20 years. It is true that Japan didn’t act as quickly as we did but our debt ratio presently is much worse than Japan’s debt ratios throughout their deleveraging process…

This seems to us to be a “mini bubble” of stocks reacting to an abundance of “money printing” by governments all over the world since stocks are rising worldwide. Of course, if the U.S. doesn’t recover there will be no worldwide recovery since the rest of the world is still dependent upon the U.S. consumers’ appetite for their goods and services (despite the so called growth of domestic consumption in China and India). We, however, don’t believe that the U.S. massive stimulus programs and money printing can solve a problem of excess debt generation that resulted from greed and living way beyond our means. If this were the answer Argentina would be one of the most prosperous countries in the world….
Most investors believe the bailouts, stimulus plans, and quantitative easing will lead to inflation. In fact, almost all of the bearish prognosticators are negative because of the fear that interest rates will rise once the inflation starts to work its way into the economy. They point to the doubling of the monetary base which they believe will soon lead to rising prices as more dollars are created chasing the same amount of goods. We, on the other hand, are not as concerned about the doubling of the monetary base because we believe the excess money will need the money multiplier and increases in velocity in order to increase aggregate demand and eventually inflation. As long as velocity (turnover of money) is stagnant we expect the increases in the monetary base and all the quantitative easing will lead to a stagnant economy and deflation until the consumer goes into the same borrowing and spending patterns that was characteristic of the 1990s through 2007.

Yves here. This point echoes a Gillian Tett piece today. Back to the newsletter”

Remember, over the past decade (when we believe the secular bear market started) the total debt in the U.S. doubled from $26 trillion in 2000 to just over $52 trillion presently (peaking a few months ago at $54 trillion). This consists of $14 trillion of gross Federal, State and Local Government debt and $38 trillion of private debt. We expect the private debt to continue declining in the future as the deleveraging of America unfolds, while the government debt will very likely explode to the upside as the government tries to slow down the private deleveraging by helping out the entities and individuals in the most trouble with debt (such as over-extended homeowners).

We wrote a special report in January of this year titled “Substituting Debt for Savings and Productive Investment” in which we explained why the U.S. economy historically prospered because of hard working Americans saving a substantial amount of their income which was used for productive investment. Unfortunately, all of this changed over the past few decades and got worse over the past decade. In fact, we stated in the report that it took $1.50 of debt to generate $1 of GDP in the 1960s, $1.70 to generate $1 of GDP in the ’70s, $2.90 in the ’80s, $3.20 in the ’90s, and an unbelievable $5.40 of debt to generate $1 of GDP in the latest decade. Over the past two decades, while most investors thought this trend could continue indefinitely, we have been warning them of the catastrophic problems associated with this ballooning debt….

We expect the total debt in the U.S. to decline during the deleveraging period directly ahead, with the government debt exploding while the private debt collapses. The private debt in Japan was almost the reverse of the U.S. where most of our excess debt was in the household sector and most of the excess debt in Japan was in the corporate sector. The debt to GDP figures in Japan were not easy to come by from the typical sources until the mid 1990s and had to be estimated, but should be pretty close to the numbers used above. Our sources on the above Japanese debt figures came from Ned Davis Research and the Federal Reserve Bank of San Francisco. NDR’s report, “Japan’s Lost Decade– Is the U.S. Next?” have great statistics and information and the Fed’s report “U.S. Household Deleveraging and Future Consumption Growth” is well worth reading.

The Fed study charted the peak of the debt related bubble of the stock and real estate assets in Japan in 1991 (1989 for stocks and 1991 for real estate) and overlaid it with the peak of U.S. debt associated with the same assets in 2008. They concluded that if we are able to liquidate our debt at the same rate as Japan we would have to increase our savings rate from the present 6% (artificially high due to the recent stimulus paid to households) today to around 10% in 2018. If U.S. households were to undertake a similar deleveraging, the collective debt-to-income ratio which peaked in 2008 at 133% (H/H debt vs. Disposable Personal Income) would need to drop to around 100% by 2018, returning to the level that prevailed in 2002.

If the savings rate in the U.S. were to rise to the 10% level by 2018 (following the Japanese experience), the SF Fed economists calculate that it would subtract ¾ of 1% from annual consumption growth each year. We did a weekly comment about this very subject on June 25 of this year and came to a similar conclusion. In that same report we showed that from 1955 to 1985 that consumption accounted for around 62% of GDP. Because of the debt driven consumption over the past few years at the end of March 2009 consumption accounted for over 70% of GDP. If the percentage dropped to the normal low 60% area of GDP it would subtract about $1 trillion off of consumption (or from $10 trillion to $9 trillion)….

We expect that the U.S. deleveraging will follow along the path of Japan for years as real estate continues to decline and the deleveraging extracts a significant toll from any growth the economy might experience. We also expect that, just like Japan, the stock market will also be sluggish to down during the next few years as the most leveraged economy in history unwinds the debt.

The newsletter also has some charts (not in the text, you need to click on them…..I figured I’d send the curious over there).

Submitted by Edward Harrison of Credit Writedowns.

This post is from Niels Jensen of Absolute Return Partners.  I have featured his monthly newsletter a number of times on Credit Writedowns (here’s the link to the last one, hilarious title).  Jensen is very good.

Visit www.arpllp.com to learn more about Absolute Return Partners and to sign up to receive their free monthly newsletter by e-mail.  You can reach them by email at info@arpllp.com.

In this particular article, he makes a well-argued case for deflation over inflation as the likely long-term outcome.  I express some of the finer points differently, but come to similar conclusions. The scenario I see is a low-growth muddle through (see the section labelled “Scylla and Charybdis” in my post, “Central banks will face a Scylla and Charybdis flation challenge for years”).  Also, note that he is not talking about a sustained recovery at all, while I expect a fake recovery in 3-9 months.

The central question here is: "But what actually happens when credit is destroyed at a faster rate than our central banks can print money?"

Here is the post.  Enjoy.

The Absolute Return Letter, July 2009

“You can’t beat deflation in a credit-based system.”-Robert Prechter

The great debate

As investors we are faced with the consequences of our decisions every single day; however, as my old mentor at Goldman Sachs frequently reminded me, in your life time, you won’t have to get more than a handful of key decisions correct – everything else is just noise. One of those defining moments came about in August 1979 when inflation was out of control and global stock markets were being punished. Paul Volcker was handed the keys to the executive office at the Fed. The rest is history.

Now, fast forward to July 2009 and we (and that includes you, dear reader!) are faced with another one of those ‘make or break’ decisions which will effectively determine returns over the next many years. The question is a very simple one:

Are we facing a deflationary spiral[1] or will the monetary and fiscal stimulus ultimately create (hyper) inflation?

Unfortunately, the answer is less straightforward. There is no question that, in a cash based economy, printing money (or ‘quantitative easing’ as it is named these days) is inflationary. But what actually happens when credit is destroyed at a faster rate than our central banks can print money?

A Story within the Story

Following the collapse of the biggest credit bubble in history, there has been no shortage of finger pointing and the hedge fund industry, which has always had an uncanny ability to be at the wrong place at the wrong time, has yet again been at the centre of attention. And politicians, keen to divert attention away from themselves as the true culprits of the crisis through years of regulatory neglect, have been quick at picking up the baton. Admittedly, the hedge fund industry is guilty of many stupid things over the years, but blaming it for the credit crisis is beyond pathetic and the suggestion that increased regulation of the hedge fund industry is going to prevent future crises is outrageously naïve.

If you prohibit private investors from investing in hedge funds which on average use 1.5-2 times leverage but permit the same investors to invest in banks which use 25 times leverage and which are for all intents and purposes bankrupt, then you either don’t understand the world of finance or you don’t want to understand. Shame on those who fall for cheap tactics.

Let’s begin by setting the macro-economic frame for the discussion. I have been quite bearish for a while, suspecting that the growing optimism which has characterised the last few months would eventually fade again as reality began to sink in that this is no ordinary recession and that ‘less bad’ doesn’t necessarily translate into a quick recovery. I still believe there is a good chance of enjoying one, maybe two, positive quarters later this year or early next; however, a crisis of this magnitude doesn’t suddenly fade into obscurity, just because the economy no longer shrinks at an annual rate of 6-8%.

The return of the boom & bust

Going forward, not only will economic growth disappoint, but the economic cycles will become more volatile again (see chart 1) with several boom/bust cycles packed into the next couple of decades. This is a natural consequence of the Anglo-Saxon consumer-driven growth model having been bankrupted. Growing consumer spending over the past 30 years led to rapidly expanding service and financial sectors both of which will now contract for years to come as overcapacity forces players to downsize.

Chart 1: US GDP Growth Volatility

Source: Reserve Bank of Dallas

This will again lead to higher corporate earnings volatility which will almost certainly drive P/E ratios lower, making conditions even trickier for equity investors. At the bottom of every major bear market in the last 200 years, P/E ratios have been below 10. As you can see from chart 2 overleaf, few countries are there yet. The next decade is therefore not likely to be a ‘buy and hold’ market for equity investors. The combination of low economic growth and pressure on valuations will create severe headwinds. The most likely way to make money in equities will be through more active trading.

Japan all over again?

So now, two years into this crisis, where do we stand and where do we go from here? History offers limited guidance, as we have never experienced the bursting of a bubble of this magnitude before. The closest thing is the collapse of the Japanese credit bubble around 1990. As the Japanese have since learned, recovering from a deflated credit bubble is a long and very painful affair.

Governments and central banks on both sides of the Atlantic are pursuing a strategy of buying time, hoping that a recovery in economic conditions will allow our banking industry to re-build its capital base. The Japanese pursued a similar strategy back in the early 1990s. It failed miserably and set the country back many years in its recovery effort. Ironically, the Japanese approach was almost universally condemned as hopelessly inadequate. It is funny how you always know better how to fix other people’s problems than your own. A little bit like raising children, I suppose.

Chart 2: P/E Ratios in Various Countries

Another lesson learned from Japan is that once you get caught up in a deflationary spiral, it is exceedingly hard to escape from its grip. The Japanese authorities have used every trick in the book to reflate the economy over the past two decades. The results have been poor to say the least: Interest rates near zero (failed), quantitative easing (failed), public spending (failed), numerous attempts to drive down the value of the yen (failed); the list is long and makes for painful reading.

The liquidity trap

We are effectively caught in a liquidity trap. The Bank of England, the European Central Bank and the Federal Reserve have all flooded their banking system with enormous amounts of liquidity in recent months but what has happened? Instead of providing liquidity to private and corporate borrowers as the central banks would like to see, banks have taken the opportunity to repair their balance sheets. For quantitative easing to be inflationary it requires that the liquidity provided to the market by the central bank is put to work, i.e. lenders must lend and borrowers must borrow. If one or the other is not playing along, then inflation will not happen.

This is illustrated in chart 3 which measures the growth in the US monetary base less the growth in M2. As you can see, the broader measure of money supply (M2) cannot keep up with the growth in the liquidity provided by the Fed. In Europe the situation is broadly similar.

There is another way of assessing the inflationary risk. If one compares the total amount of credit destruction so far (about $14 trillion in the US alone) to the amount spent by the Treasury and the Fed on monetization and fiscal stimulus ($2 trillion), it is obvious that there is still a sizeable gap between the capital lost and the new capital provided[2].

The output gap

If we instead move our attention to the real economy, a similar picture emerges. One of the best leading indicators of inflation is the so-called output gap, which measures how much actual GDP is running below potential GDP (assuming full capacity utilisation). It is highly unlikely for inflation to accelerate during a period where the output gap is as high as it currently is (see chart 4). Theoretically, if you believe in a V-shaped recession, the output gap can be reduced significantly over a relatively short period of time, but that is not our central forecast for the next few years.

Chart 4: Output Gap & Capacity Utilization

The deflationary spiral

I can already hear some of you asking the perfectly valid question: How can you possibly suggest that deflation will prevail when commodity prices are likely to rise further as a result of seemingly endless demand from emerging economies? Won’t rising energy prices ensure a healthy dose of inflation, effectively protecting us from the evils of the deflationary spiral (see chart 6)?

Good question – counterintuitive answer:

Contrary to common belief, rising commodity prices can in fact be deflationary so long as demand for such commodities is relatively inelastic, which is usually the case for basic necessities such as heating oil, petrol, food, etc. The logic is the following: As commodity prices rise, money earmarked for other items goes towards meeting the higher commodity price and consumers are essentially forced to re-allocate their spending budget. This causes falling demand for discretionary items and can in extreme cases lead to deflation. We only have to go back to 2008 for the latest example of a commodity price induced deflationary cycle.

A price increase on a price inelastic commodity is effectively a tax hike. The only difference is that, in the case of the 2008 spike in energy prices, the money didn’t go towards plugging holes in the public finances but was instead spent on English football clubs (well, not all of it, but I am sure you get the point) which have become the latest ‘must have’ amongst the super-rich in the Middle East.

For all those reasons, I am becoming increasingly convinced that the ultimate outcome of this crisis will turn out to be deflation – not inflation. Inflation may eventually become a problem, but that is something to worry about several years from now. The Japanese have pursued an aggressive monetary and fiscal policy for almost 20 years now, and they are still nowhere.

Interest rates on the rise

So why are interest rates creeping up at the long end? Part of it is due to the sheer supply of government debt scheduled for the next few years which spooks many investors (including us). And the fact that the rising supply is accompanied by deteriorating credit quality is a factor as well. But countries such as Australia and Canada, which only suffer modest fiscal deficits, have experienced rising rates as well, so it cannot be the only explanation.

Maybe the answer is to be found in the safe haven argument. When much of the world was staring into the abyss back in Q4 last year, government bonds were considered one of the few safe assets around and that drove down yields. Now, with the appetite for risk on the increase again, money is flowing out of government bonds and into riskier assets.

Perhaps there are more inflationists out there than I thought. Several high profile investors have been quite vocal recently about the inevitability of inflation. Such statements made in public by some of the industry’s leading lights remind me of one of the oldest tricks in the book which I was introduced to many moons ago when I was still young and wet behind the ears. ‘Get long and get loud’ it is called; it is widely practised and only marginally immoral. Nevertheless, when famous investors make such statements, it affects markets.

Make sure you get it right

The point I really want to make is that the inflation v. deflation story is the single biggest investment story right now and being on the right side of that trade will effectively secure your investment returns for years to come. If I am wrong and inflation spikes, you want to load your portfolio with index linked government bonds (also known as TIPS for our American readers), gold and other commodities, commodity related stocks as well as property.

If deflation prevails, all you have to do is to look towards Japan and see what has done well over the past 20 years. Not much! You cannot even assume that bonds will do well. Recessions are bullish for long dated government bonds but a collapse of the entire credit system is not. The reason is simple – with the bursting of the credit bubble comes drastic monetary and fiscal action. Central banks print money and governments spend money as if there is no tomorrow, and all bets are off. Equities will do relatively poorly as will property prices. But equities will not go down in a straight line. The market will offer plenty of trading opportunities which must be taken advantage of, if you want to secure a decent return.

All in all, deflation is ugly and not conducive to attractive investment returns. It is also not what governments want and need right now. With a mountain of debt hitting the streets of Europe and America over the next few years, as the cost of fixing the credit and banking crisis is financed, one can make a strong case for rising inflation actually being the favoured outcome if you look at it from the government’s point of view. The problem, as the Japanese can attest to, is that deflation is excruciatingly difficult to get rid of, once it has become entrenched. I am in no doubt which of the two evils I would prefer, but we may not have the luxury of choosing our own destiny.

Focus on volatility trades

So where does all that leave us? Our good friend and business partner, John Mauldin, has just put the finishing touches to a new accredited letter which will be published in the next day or two. In his letter, John makes the point that markets are likely to remain volatile for quite a while yet. On a personal note I will add that if my worst fears are proven correct and we have to fight a bout of deflation, the authorities will have no choice but to try and provoke price increases through aggressive policy measures. Otherwise entire countries could be bankrupted as they suffocate in their own debt. Whether it will work is a different story.

Such a struggle for supremacy between deflationary and inflationary forces will only add to the volatility predicted by John and give rise to an investment environment which is very unlike the one we have seen during the past 20-30 years. You need strategies in your portfolio which thrive on volatility, and they are certainly not the same strategies as those held by most investors today.

We are currently preparing the launch of a new single manager fund which is designed to thrive on volatility. It is also operating in markets as far detached from the world of equities as you can imagine, so the correlation to equities will almost certainly be low. If you are based in Europe, Africa or Asia and want to learn more about this new product or if you wish to receive John’s letter[3] when it is published, just drop us a note and you will hear from us. In the meantime, join me and wish for a bit if inflation. It is clearly the lesser of two evils.

Niels C. Jensen

---

[1] See chart 5 for a definition.

[2] http://seekingalpha.com/article/145904-hyperinflation-trade-looking-crowded

[3] If you have already signed up as an Accredited Investor on John Mauldin’s website, you will receive his new letter automatically.

Japan once had robust exports and a de facto two-tier economy. Yet the image of the dreadful domestic economy dominated as Japan has been characterized as having a lost nearly two decades. I’ve long harbored the suspicion that Japan played up the stagnant domestic economy so no one would bust its chops over its booming exports.

Those days are past, finished by the one-two punch of the global downturn and Japan’s strong yen. It is puzzling that the yen continues at these lofty levels, given the dreadful prospects for the economy and the fact that the Bank of Japan has signaled it will intervene if it has to, as it did successfully in 2003. Japanese banks are also not as strong as they are perceived to be. Although they are not mired in crappy structured credit deals, the flip side is their equity bases depend in part on cross shareholdings in other Japanese companies. If the Nikkei falls far enough, the banks are undercapitalized.

Note also the last paragraph of the story, which raises questions about the Chinese recovery.

From Bloomberg (hat tip DoctoRx):

Japan’s exports fell at a faster pace in May, extending the nation’s deepest trade slump since World War II.

Shipments abroad dropped 40.9 percent from a year earlier, more than April’s 39.1 percent decline….The median estimate of economists surveyed was for a 39.3 percent decrease. From a month earlier, exports fell 0.3 percent, the first deterioration since February…..

“The question remains: will this be a typical recovery in terms of the magnitude of the rebound?” said David Cohen, director of Asian economic forecasting at Action Economics in Singapore. “The pessimists say there are still headwinds from lingering financial stress in a lot of places.”….

Bank of Japan Governor Masaaki Shirakawa said this month that, although the recession probably bottomed last quarter, he is “cautious” about the prospects for a sustained recovery…

“With the world economy in recession it’s a tough story for Japan,” said Jan Lambregts, head of financial markets research at Rabobank International in Hong Kong. “The U.S., the euro zone, the rest of Asia have to recover, and then Japan can benefit.”

The World Bank this week downgraded its forecast for global growth, saying the world economy will shrink 2.9 percent this year, worse than the 1.7 contraction predicted in March. Fewer capital inflows and less direct investment will mean “increasingly grave prospects” for developing nations, the lender said…

Nor has China’s recovery been enough to revive earnings for Japan’s exporters. Hitachi Construction said this month that sales in China haven’t improved as much as the company had anticipated. The world market for digging equipment will contract by more than a third in the first half of the business year and rebound by only 6 percent in the second half, according to company President Michijiro Kikawa.

One of the alleged reasons for cheer on the economic front is that major foreign economies are bottoming. For instance, Japan reported the biggest increase in industrial production in 56 years roughly two weeks ago, A comment from a Bloomberg story on that release:

This is not so much a green shoot as it is a green tree,” said Glenn Maguire, chief Asia-Pacific economist at Societe Generale SA in Hong Kong. “Optimism on Japan is certainly not misplaced as we look at a reasonably strong quarter of growth in April to June.”…

Unless you are an equity salesman, never make too much of one data point. Both capital expenditures and inflation data out of Japan today paint a much more mixed picture. Similarly, the press has keenly reported signs of life in China, despite falling electricity use. a telling indicator of economic activity. While Germany has not been a focus of optimism, the news from there continues to be less than cheery.

First to Japan. From MarketWatch (hat tip DoctoRx):

A key indicator of Japanese corporate capital investment slipped far more than expected Wednesday, while an index of wholesale prices showed a deeper-than-expected drop, suggesting pressures remain on the world’s second-largest economy.

Japanese core machinery orders fell a seasonally adjusted 5.4% in April from March, the Cabinet Office said Wednesday, a much weaker result than the 0.8% rise predicted by analysts surveyed by Nikkei and Dow Jones Newswires.

Core orders exclude those from electric power firms and shipbuilders, which can skew monthly data due to their large sizes.

“Machinery orders predict capital spending three to six months down the road. Hence, major Japanese firms still exercise great caution in capex, even as exports are recovering on a (month-on-month) basis,” said Uwe Parpart, chief economist for Asia at Cantor Fitzgerald.

Manufacturing sector orders skidded 9.4% from the previous month, while non-manufacturers’ orders fell 8.8%, the government data showed….

Separately, the corporate goods price index was down 5.4% in May compared to the same month last year, according to data released Wednesday by the Bank of Japan. The drop was the fastest in 22 years, according to news reports.That was more than the 5.1% drop forecast by analysts..

More commentary from Bloomberg:

Orders for Japanese machinery fell to a 22-year low in April as dwindling profits forced companies to cut costs amid the worst postwar recession.

Bookings, an indicator of capital investment in the next three to six months, fell 5.4 percent to 688.8 billion yen ($7.1 billion), the lowest since April 1987, the Cabinet Office said today in Tokyo. Economists predicted a 0.6 percent drop. . .

A separate report today showed that producer prices, or the costs companies pay for energy and raw materials, tumbled 5.4 percent from a year earlier, the biggest slide since 1987, according to the Bank of Japan. . .

Still, even after showing signs of stabilizing, exports and production have fallen by more than a third from last year’s levels. Only about half the nation’s factory capacity is being used, putting pressure on managers to cut costs and delay investment s.

A survey published this week by the Nikkei newspaper showed that Japanese companies plan to cut capital spending by an unprecedented 15.9 percent this business year. The previous record was an 11.8 percent decline that came in 1993 when the bursting of Japan’s asset bubble left companies saddled with plant and equipment they no longer needed. . .

“Capacity utilization is so low and profits have fallen so sharply that I just don’t see a strong recovery,” said Yoshiki Shinke, a senior economist at Dai-Ichi Life Research Institute in Tokyo. “What you can say is there are signs that orders are bottoming. The numbers aren’t plummeting like they were at the beginning of the year.”

A tart take on the latest news from China, a dramatic fall in producer prices, comes from Karl Denninger (hat tip reader Scott):

From Bloomberg

….Prices dropped 1.4 percent in May from a year earlier, after falling 1.5 percent in April, the statistics bureau said today. The median estimate in a Bloomberg News survey of 16 economists was for a 1.3 percent decline. Producer prices fell 7.2 percent, the most on record.

Recovery eh?

Producer prices are paid when products go into production, of course. Consumer prices are paid when products are sold.

There is a lag between production and sale (duh)

If producer prices are precipitously declining at this sort of a rate – annualized at 86.4% – it is not signaling “stabilization” or “recovery” – it is signaling incipient economic collapse as the demand for those goods at the producer level is insufficient to support prices at all.

Bluntly, that’s a base jump and as noted, “the most on record.”

“China’s economy is already rebounding and as soon as it regains momentum, prices will return to positive territory,” said Sherman Chan, an economist with Moody’s Economy.com in Sydney.

Pure nonsense – either the PPI is wrong or their economy is nowhere near stabilization, say much less a “rebound.”

Yves here. As mentioned here and elsewhere, the media cheerleading is reminiscent of the old Soviet press. Back to Denninger:

And by the way, that PPI decrease is not in raw materials:

While the Reuters/Jefferies CRB Index of 19 raw materials, including oil and copper, is down about 39 percent from a year ago, it has climbed about 14 percent in 2009.

That’s especially bad – raw materials are up 14% this year (~3% monthly, if all months are equal, which of course they never are) but last month the PPI was down 7%.

Its always dangerous to believe anything in economic statistics coming out of China. If you think OUR government lies…….

Now to Germany, via Eurointelligence:

After exports stabilised in March, they got worse again in April, much worse. German exports declined by 4.8% month on month during April, and by 28.7% year-on-year, which the FT points out is the worst fall since the 1950s. Industrial production also fell in April, by 1.9%. These are really terrible figures. No green shoots here.