The World in Balance Sheet Recession: What Post-2008 West Can Learn from Japan

Transcription

1 The World in Balance Sheet Recession: What Post-28 West Can Learn from Japan Richard C. Koo Chief Economist Nomura Research Institute Tokyo August 212

2 Exhibit 1. US Housing Prices Are Moving along the Japanese Experience (US: Jan. 2=1, Japan: Dec. 1985=1) US: 1 Cities Composite Home Price Index Japan: Tokyo Area Condo Price 1 Futures Composite Index Futures Japan: Osaka Area Condo Price US Japan Note: per m 2, 5-month moving average Sources: Bloomberg, Real Estate Economic Institute, Japan, S&P, S&P/Case-Shiller Home Price Indices, as of Jul. 26, 212 1

3 Exhibit 2. House Prices in Europe also Experienced Bubble (end of 1995 = 1) Ireland Greece Spain Germany Greece 271 Ireland 262 Spain 238 Germany 1 Notes: Ireland's figures before 25 are existing house prices only. Greece's figures are flats' prices in Athens and Thessaloniki. Germany's latest f igure is estimated f rom the house price index of Europace AG. Source: Nomura Research Institute, calculated f rom BIS and Europace AG data. 2

4 Exhibit 3. Drastic Rate Cuts Have Done Little to Revive Employment or House Prices 8 (%) 7 6 UK Australia EU US Japan Sources: BOJ, FRB, ECB, BOE and RMB Australia. As of Jul. 26,

5 Exhibit 4. US Economy Is still a Long Way from Previous Peak 13 (27=1, Seasonally adjusted) (%, Seasonally adjusted, inverted) Unemployment Rate (right scale) Industrial Production (left scale) Last seen in Last seen in Last seen in Sources: US Department of Labor, FRB 4

6 Exhibit 5. Euro-Zone Economy Is still a Long Way from Previous Peak 115 (Seasonally adjusted, 25=1) (%, Seasonally adjusted, inverted) Unemployment Rate (right scale) Last seen in Industrial Production (left scale) Worst on record* *No data before 1995 Source: Eurostat

7 Exhibit 6. Except in Germany, Industrial Production in Europe Is still Weak (25 = 1, Seasonally Adjusted) Spain France Italy Germany Level last seen in 27: Germany : France : Italy 1994: Spain Source: Eurostat 6

8 Exhibit 7. Japan s Industrial Production Fell to the Level of 1987 after the Earthquake (Seasonally adjusted) Industrial production (right scale) (Seasonally adjusted, 25=1) forecast Last seen in 22 Last seen in Job offers to applicants ratio (left scale) Last seen in Last seen in 1983 Lowest on record Note: Forecasts are calculated f rom METI's survey on planned production. Sources: Ministry of Economy, Trade and Industry (METI), and Ministry of Health, Labour and Welf are 7 7

9 Monetary Base Exhibit 8. Drastic Liquidity Injection Failed to Increase Money Supply (I): US (Aug. 28 =1, Seasonally Adjusted) Money Supply (M2) Loans and Leases in Bank Credit (%, yoy) Consumer Spending Deflator (core) 8/1 8/4 8/7 8/1 9/1 9/4 9/7 9/1 1/1 1/4 1/7 1/1 11/1 11/4 11/7 11/1 12/1 12/4 311 Down 25% +1.82% Sources: Board of Governors of the Federal Reserve System, US Department of Commerce Note: Commercial bank loans and leases, adjustments for discontinuities made by Nomura Research Institute. 8

10 Exhibit 9. Drastic Liquidity Injection Failed to Increase Money Supply (II): EU (Aug. 28 =1, Seasonally Adjusted) Base Money Money Supply (M3) Credit to Euro Area Residents (%, yoy) CPI core 8/1 8/4 8/7 8/1 9/1 9/4 9/7 9/1 1/1 1/4 1/7 1/1 11/1 11/4 11/7 11/1 12/1 12/4 12/7 Sources: ECB, Eurostat Note: Base money's figures are seasonally adjusted by Nomura Research Institute. +1.6% 9

11 Exhibit 1. Drastic Liquidity Injection Failed to Increase Money Supply (III): UK (Aug. 28 =1, Seasonally Adjusted) 1 Reserve Balances + Notes & Coin Money Supply (M4) Bank Lending (M4) Aug. 8' 369 Down 19% (%, yoy) 5 CPI (ex. Indirect Taxes) /1 7/7 8/1 8/7 9/1 9/7 1/1 1/7 11/1 11/7 12/1 +2.4% Sources: Bank of England, Office for National Statisics, UK Notes: 1. Reserve Balances data are seasonally unadjusted. 2. Money supply and bank lending data exclude intermmediate financial institutions. 1

12 Exhibit 11. Drastic Liquidity Injection Failed to Produce Drastic Increase in Money Supply (IV): Japan 35 3 (199/1Q = 1, Seasonally Adjusted) Monetary Base Money Supply (M2) Quantitative Easing Earthquake Bank Lending 199/1Q 2 15 Textbook Economics (Monetary Policy Effective) Balance Sheet Recession (Monetary Policy NOT Effective) Down 41% (y/y, %) CPI Core (ex. fresh food) % Note: Bank lending are seasonally adjusted by Nomura Research Institute. Source: Bank of Japan 11

13 Exhibit 12. Japan s De-leveraging with Zero Interest Rates Lasted for 1 Years Funds Raised by Non-Financial Corporate Sector (% Nominal GDP, 4Q Moving Average) (%) 25 2 CD 3M rate (right scale) Borrowings from Financial Institutions (left scale) Funds raised in Securities Markets (left scale) Debt-financed bubble (4 years) Balance sheet recession (16 years) Sources: Bank of Japan, Cabinet Office, Japan 12

14 Exhibit 13. Japan s GDP Grew in spite of Massive Loss of Wealth and Private Sector De-leveraging 14 (Sep. 199=1) (Sep.199=1, Seasonally Adjusted) Real GDP (Right Scale) Nominal GDP (Right Scale) Likely GDP Path w/o Government Action 1 85 Cumulative 9-5 GDP Supported by Government Action: ~ 2 trillion Land Price Index in Six Major Cities (Commercial, Left Scale) Last seen in down 87% Cumulative Loss of Wealth on Shares and Real Estate ~ 15 trillion Sources: Cabinet Of f ice, Japan Real Estate Institute 13

15 Exhibit 14. Japanese Government Borrowed and Spent the Unborrowed Savings of the Private Sector to Sustain GDP 11 (Tril. yen) 1 Government spending Bubble Collapse Tax revenue cumulative cyclical deficit trillion overall deficit 46 trillion Source: Ministry of Finance, Japan Note: FY 211 includes 4th supplementary budget and FY212 is initial budget. 14

16 Exhibit 15. Premature Fiscal Reforms in 1997 and 21 Weakened Economy, Reduced Tax Revenue and Increased Deficit 8 (Yen tril.) (Yen tril.) Tax Revenue Budget Deficit Hashimoto fiscal reform Obuchi-Mori fiscal stimulus Koizumi fiscal reform Earthquake Global Financial Crisis * 5 unnecessary increase in 4 deficit: 13.3 tril (FY) Source: Ministry of Finance, Japan Notes: Latest f igures(*) are estimated by MOF. From FY211, f igures includes reconstruction taxes and bonds. 15

17 Exhibit 16. US in Balance Sheet Recession: US Private Sector Increased Savings Massively after the Bubble Financial Surplus or Deficit by Sector (as a ratio to nominal GDP, %, quarterly) Households (Financial Surplus) Rest of the World Private Sector Savings: 7.33% of GDP Corporate Sector (Non-Financial Sector + Financial Sector) General Government -1 IT Bubble Housing Bubble (Financial Deficit) Note: For the latest figures, 4 quarter averages ending with 1Q/12' are used. Sources: FRB, US Department of Commerce 16

18 Exhibit 17. UK in Balance Sheet Recession: UK Private Sector Increased Savings Massively after the Bubble Financial Surplus or Deficit by Sector 9 (as a ratio to nominal GDP, %) Households (Financial Surplus) 6 3 Rest of the World Private Sector Savings: 7.54% of GDP General Government Corporate Sector (Non-Financial Sector + Financial Sector) -12 (Financial Deficit) Note: For the latest figures, 4 quarter averages ending with 1Q/12' are used. Source: Of f ice f or National Statistics, UK 17

19 Exhibit 18. Global Bond Yields * Nearing Japanese Levels 6 5 (%) UK US Sweden Switzerland Japan % bond yield first seen in Japan in % *Note: Excluding Eurozone. As of Jul 26, 212. Source: Bloomberg 18

20 Exhibit 19. Euro-Zone Bond Yields Are Diverging Sharply 4 (%) Greece Ireland Portugal Spain Italy France Germany Note: As of Jul 26, 212. Source: Bloomberg 19

21 Exhibit 2. Euro-zone in Balance Sheet Recession: Euro-zone Private Sector Increased Savings Massively after the Bubble 6 (as a ratio to nominal GDP, %) Financial Surplus or Deficit by Sector (Financial Surplus) 4 2 Rest of the World Households Private Sector Savings: 3.77% of GDP Corporate Sector (Non-Financial Sector + Financial Sector) General Government (Financial Deficit) Note: For the latest figures, 4 quarter averages ending with 4Q/11' are used. Source: ECB 2

22 Exhibit 21. Spain in Balance Sheet Recession: Spanish Private Sector Increased Savings Massively after the Bubble 12 9 Financial Surplus or Deficit by Sector (as a ratio to nominal GDP, %) (Financial Surplus) Households Rest of the World 6 3 Private Sector Savings: 5.55% of GDP General Government Corporate Sector (Non-Financial Sector + Financial Sector) (Financial Deficit) Note: For the latest figures, 4 quarter averages ending with 1Q/12' are used. Source: Banco de España 21

23 Exhibit 22. Ireland in Balance Sheet Recession: Irish Private Sector Increased Savings Massively after the Bubble 2 15 (as a ratio to nominal GDP, %, quarterly) Corporate Sector (Non-Financial Sector + Financial Sector) Financial Surplus or Deficit by Sector (Financial Surplus) Rest of the World 1 5 Private Sector Savings: 7.66% of GDP Households General Government -3 (Financial Deficit) Note: For the latest figures, 4 quarter averages ending with 4Q/11' are used. Sources: The Central Bank of Ireland and Central Statistics Of f ice, Ireland 22

24 Exhibit 23. Portugal in Balance Sheet Recession: Portuguese Private Sector Increased Savings Massively after the Bubble 12 (as a ratio to nominal GDP, %) Financial Surplus or Deficit by Sector (Financial Surplus) 9 Rest of the World 6 Households 3-3 General Government Private Sector Savings: 4.3% of GDP Corporate Sector (Non-Financial Sector + Financial Sector) (Financial Deficit) Note: For the latest f igures, 4 quarter averages ending with 1Q/12' are used. Source: Banco de Portugal 23

25 Exhibit 24. Two Structural Deficiencies of Eurozone (1) (2) Maastricht Treaty and Fiscal Compact Never Considered the Risk of Balance Sheet Recessions Procyclical and Destabilizing Capital Flows between Gov. Bond Markets of Member Countries Result Countries Are Forced into Deflationary Spirals because They Are Prohibited by the Treaty and Prevented by the Market from Using Fiscal Stimulus to Fight Balance Sheet Recessions Excessively Low Gov. Bond Yields during Bubbles Excessively High Gov. Bond Yields during Balance Sheet Recessions 24

26 Exhibit 25. German Private Sector Refused to Borrow Money after Telecom Bubble Financial Surplus or Deficit by Sector (as a ratio to nominal GDP, %) Households (Financial Surplus) Telecom Bubble Shift from 2 to 25 in private sector: 12.6% of GDP Corporate: 9.26% Households: 2.8% -2 Rest of the World Corporate Sector (Non-Financial Sector + Financial Sector) General Government Balance Sheet Recession (Financial Deficit) Shift from 2 to 25 in public sector: 4.62% of GDP Sources: Deutsche Bundesbank, Federal Statistical Of f ice Germany Note: The assumption of Treuhand agency's debt by the Redemption Fund f or Inherited Liabilities in 1995 is adjusted. 25

27 Exhibit 26. Source of Competitiveness Problem : Divergence of Eurozone Money Supply Growth 3 (1999 Q1=1, Seasonally adjusted) 25 2 Eurozone ex. Germany Germany Greece Lehman Shock 15 Paths will cross in Jun Already crossed for Greece Notes: Growth in M3. Figures for Germany and Greece seasonally adjusted by Nomura Research Institute. Path of money supply growth was estimated as 2, x trend for Germany and 7, x trend for other countries, based on trend f or January 21 through May 212. Source: Nomura Research Institute, based on ECB, Deutsche Bundesbank and Bank of Greece 26

28 Exhibit 27. Divergence of Eurozone Labor Costs 16 (2 = 1) Germany Ireland Greece Spain France Italy Portugal Spain: Ireland: France: 144. Italy: Portugal: Greece: 129.8* 12 Germany: Note: Greek figure for 211 represents average through 211 Q3. Source: Eurostat 27

29 Exhibit 28. Post IT-Bubble Germany Recovered by Increasing Exports to Eurozone 12 1 ( mn, seasonally adjusted) German Balance of Trade Eurozone 8 6 US Asia Source: Deutsche Bundesbank 28

30 Exhibit 29. ECB Facing Balance Sheet Recession Can Supply Large Amounts of Liquidity without Igniting Inflation (Aug. 28 = 1, seasonally adjusted) Monetary Base (=Liquidity) Money Supply Aug. 28 Eurozone US UK Eurozone US UK US-like monetary easing would allow ECB to supply 96.3 bil. worth of additional liquidity Notes: 1. UK's reserve balances data are seasonally unadjusted. 2. UK's money supply and bank lending data exclude intermmediate financial institutions. 3. Base money's f igures of Eurozone are seasonally adjusted by Nomura Research Institute. Source: Nomura Research Institute, based on FRB, ECB and Bank of England data. 29

31 Exhibit 3. Balance Sheet Correction in France Was Minimal 8 6 Financial Surplus or Deficit by Sector (as a ratio to nominal GDP, %) (Financial Surplus) Households 4 2 Private Sector Savings: 2.12% of GDP Rest of the World Corporate Sector (Non-Financial Sector + Financial Sector) (Financial Deficit) Note: For the latest figures, 4 quarter averages ending with 4Q/11' are used. Sources: ECB and Eurostat General Government 3

32 Exhibit 31. Balance Sheet Correction in Italy Was Minimal Financial Surplus or Deficit by Sector (as a ratio to nominal GDP, %, quarterly) (Financial Surplus) Households 6 4 Rest of the World Private Sector Savings: -1.16% of GDP General Government (Financial Deficit) Corporate Sector (Non-Financial Sector + Financial Sector) Note: For the latest f igures, 4 quarter averages ending with 4Q/11' are used. Sources: Banca d'italia, Eurostat 31

33 Exhibit 32. Greek Private Sector Is Drawing Down Savings to Survive Financial Surplus or Deficit by Sector (as a ratio to nominal GDP, %, quarterly) Households (Financial Surplus) Rest of the World Private Sector Savings: -7.4% of GDP Corporate Sector (Non-Financial Sector + Financial Sector) (Financial Deficit) General Government Note: For the latest figures, 4 quarter averages ending with 2Q/11' are used. Sources: Bank of Greece, Eurostat 32

34 Exhibit 33. Greek Corporates Are Both Drawing Down Savings and Reducing Debt 15 (as a percentage of nominal GDP) (as a percentage of nominal GDP, inverted) -15 left scale Financial Assets Financial Liabilities right scale Sources: Bank of Greece, Eurostat 33

35 Exhibit 34. Greek Households Are Both Drawing Down Savings and Reducing Debt 2 (as a percentage of nominal GDP) (as a percentage of nominal GDP, inverted) -2 left scale Financial Assets Financial Liabilities right scale Sources: Bank of Greece, Eurostat 34

36 Exhibit 35. Japanese Corporates Increased Savings again after Lehman Financial Surplus or Deficit by Sector (as a ratio to nominal GDP, %) (Financial Surplus) Households Rest of the World Private Sector Savings: 1.1% of GDP shift = 22% of GDP Corporate Sector (Non-Financial Sector + Financial Sector) (Financial Deficit) General Government Balance Sheet Recession Note: For the latest f igures, 4 quarter averages ending with 1Q/12' are used. Sources: Bank of Japan, Flow of Funds Accounts, and Government of Japan, Cabinet Office, National Accounts Global Financial Crisis 35

37 8 6 Exhibit 36. Australian Household Savings Are Large while Corporate Borrowings Are Modest Households Financial Surplus or Deficit by Sector (Financial Surplus) Rest of the World 4 2 Private Sector Savings: 1.75% of GDP Corporate Sector -8 (Non-Financial Sector General + Financial Sector) Government (Financial Deficit) Note: For the latest f igures, 4 quarter averages ending with 1Q/12' are used. Source: Australian Bureau of Statistics 36

38 Exhibit 37. U.S. Took 3 Years to Normalize Interest Rate after 1929 because of Private Sector Aversion to Debt (%) US government bond yields Prime BA, 9days US government bond yields average (4.9%, June 1959) Prime BA, 9days average (4.13%, September 1959) 6 Oct '29 NY Stock Market Crash Dec '41 Pearl Harbor Attack Jun '5 Korean War 5 '33~ New Deal Source: FRB, Banking and Monetary Statistics Vol.1, pp and , Vol.2, pp and

39 Exhibit 38. Monetary Easing No Substitute for Fiscal Stimulus (I): Japan s Money Supply Has Been Kept Up by Government Borrowings Balance Sheets of Banks in Japan December 1998 Assets Liabilities December 27 Assets Liabilities Credit Extended to the Private Sector 61.6 tril. Money Supply (M2+CD) tril. Credit Extended to the Private Sector 51.8 tril. (-99.8) Money Supply (M2+CD) tril. (+122.9) Credit Extended to the Public Sector 14.4 tril. Foreign Assets (net) 32.7 tril. Other Liabilities (net) tril. Total Assets tril. Foreign assets (net) 74.1 tril. (+41.4) Credit Extended to the Public Sector tril. (+16.8) Total Assets tril. (+48.4) Other Liabilities (net) 78.7 tril. (-74.5) Source: Bank of Japan "Monetary Survey" 38

40 Exhibit 39. Monetary Easing No Substitute for Fiscal Stimulus (II): Post-1933 US Money Supply Growth Made Possible by Government Borrowings Balance Sheets of All Member Banks June 1929 Assets Liabilities June 1936 Assets Liabilities Credit Extended to the Private Sector $29.63 bil. Credit Extended to the Public Sector $5.45 bil. Other Assets $8.2 bil. Reserves $2.36 bil. Deposits $32.18 bil. Other Liabilities $6.93 bil. Capital $6.35 bil. Credit Extended to the Private Sector $15.8 bil. (-13.83) Credit Extended to the Public Sector $8.63 bil. (+3.18) Other Assets $6.37 bil. (-1.65) Reserves $2.24 bil. (-.12) June 1933 Assets Liabilities Deposits $23.36 bil. (-8.82) Other Liabilities $4.84 bil. (-2.9) Capital $4.84 bil. (-1.51) Credit Extended to the Private Sector $15.71 bil. (-.9) Credit Extended to the Public Sector $16.3 bil. (+7.67) Other Assets $8.91 bil. (+2.54) Reserves $5.61 bil. (+3.37) Total Assets $45.46 bil. Total Assets $33.4 bil. (-12.42) Total Assets $46.53 bil. (+13.49) Deposits $34.1 bil. (+1.74) (= Money Supply) Other Liabilities $7.19 bil. (+2.35) Capital $5.24 bil. (+.4) Source: Board of Governors of the Federal Reserve System (1976) Banking and Monetary Statistics pp

41 Exhibit 4. Industrialization of Chinese (or any Agrarian) Economy wages A S Fast growth B Industrialization Labor supply curve Slower growth Stable prices Widening income inequality Strong investment Weak consumption Capital's profit Investment Worker's income Consumption C D E (i) G D 1 (ii) H K D 2 F I J M L D 3 China Today Labor demand curve number of workers Inflation Narrowing income inequality Slower investment Stronger consumption China until now (capital-accumulation phase) China in the future (normalization of domestic demand phase) Source: Nomura Research Institute 4

42 Exhibit 41. Yin Yang Cycle of Bubbles and Balance Sheet Recessions Yin (=Shadow) Bubble Yang (=Light) (1) Monetary policy is tightened, leading the bubble to collapse. (9) Overconfident private sector triggers a bubble. US Spain UK (2) Collapse in asset prices leaves private sector with excess liabilities, forcing it into debt minimization mode. The economy falls into a balance sheet recession. (3) With everybody paying down debt, monetary policy stops working. Fiscal policy becomes the main economic tool to maintain demand. (8) With the economy healthy, the private sector regains its vigour, and confidence returns. (7) Monetary policy becomes the main economic tool, while deficit reduction becomes the top fiscal priority. (4) Eventually private sector finishes its debt repayments, ending the balance sheet recession. But it still has a phobia about borrowing which keeps interest rates low, and the economy less than fully vibrant. Economy prone to mini-bubbles. (6) Private sector fund demand recovers, and monetary policy starts working again. Fiscal policy begins to crowd out private investment. Japan Germany (5) Private sector phobia towards borrowing gradually disappears, and it takes a more bullish stance towards fund raising. Source: Richard Koo, The Holy Grail of Macroeconomics: Lessons from Japan s Great Recession, John Wiley & Sons, Singapore, April 28 p

43 Exhibit 42. Contrast Between Yin and Yang Phases of Cycle 1) Phenomenon 2) Fundamental driver 3) Corporate financial condition 4) Behavioral principle 5) Outcome 6) Monetary policy 7) Fiscal policy 8) Prices 9) Interest rates 1) Savings Yang Textbook economy Adam Smith's "invisible hand" Assets > Liabilities Profit maximization Greatest good for greatest number Effective Counterproductive (crowding-out) Inflationary Normal Virtue Yin Balance sheet recession Fallacy of composition Assets < Liabilities Debt minimization Depression if left unattended Ineffective (liquidity trap) Effective Deflationary Very low Vice (paradox of thrift) 11) Remedy for Banking Crisis a) Localized b) Systemic Quick NPL disposal Pursue accountability Slow NPL disposal Fat spread Normal NPL disposal Pursue accountability Slow NPL disposal Gov. capital injection Source: Richard Koo, The Holy Grail of Macroeconomics: Lessons from Japan s Great Recession, John Wiley & Sons, Singapore, 28 42