Thesis 2012 Financial Repression

Thesis 2012 Financial Repression-4
Yet Japan has — thus far — somehow avoided a debt crisis. In a country where interest rates have moved slowly but consistently over the past two decades, investors who have gambled on the thesis that Japan’s financial structure is unsustainable have been forced to learn one of the harshest lessons of investing: There is little difference between being early and being wrong.

Yet Japan has — thus far — somehow avoided a debt crisis. In a country where interest rates have moved slowly but consistently over the past two decades, investors who have gambled on the thesis that Japan’s financial structure is unsustainable have been forced to learn one of the harshest lessons of investing: There is little difference between being early and being wrong.

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Therefore, Japan’s ability to finance its federal government will be determined by the health of its GDP growth (which grows tax revenues, all else equal), its ability to grow federal tax revenues, its ability to control its budget, its ability and willingness to use its substantial foreign exchange reserves, and perhaps most importantly, its ability to continue selling bonds to the public.

The secret of Japan’s ability to finance itself over the past 22 years is that it has used its current account surplus to create a closed loop — more money flows into Japan than flows out, and that net inflow is largely invested in JGBs (Japanese government bonds).

In 1985, the major economies of the world (United States, Japan, West Germany, France, and the United Kingdom) coordinated the Plaza Accord to reduce the value of the dollar relative to other major currencies (including the yen) with the specific intent of reducing trade imbalances.

In the 24 months after signing the accord, the yen appreciated by 50%.

As you can see in Table 1, this is the answer to the original question.

This cash flow cycle is how Japan has funded itself over the past 22 years. The Japanese debt crisis is being spawned by a burgeoning fiscal deficit.

The BOJ was ferociously trying to stimulate the economy with aggressive easing.

In addition to low rates, the BOJ maintained high levels of money supply and credit growth, which drove the creation of the bubble as illustrated in Figure 2.

While this monetization of debt creates inflationary pressures, it has thus far been offset by the deflationary pressures of a declining workforce and declining population.

There are short-term fluctuations from year to year, but it is clear when looking at averages decade by decade that funding pressures in Japan have been growing over time.

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