Sunday, October 3, 2010

Debt! Which is Worse Off Japan or USA Part II

In a former blog, the question was asked, "Which is worse off, the USA or Japan, when it comes to debt?"

I asked my friend and world famous investment advisor Mish Shedlock about it and he graciously replied:

Japan is worse off - Their problem hits first (Japan already has debt at 190% of GDP - USA debt 87.6% as of May 15, 2010). Also Japan is much worse off because of demographics – a much older population... Timing is the key! The USA actually has some time to do something (even if we know they won’t) 

Now, Japan expert Marc Abela (who is running the Mises Institute site in Japan chimes in:

Mish is unfortunately wrong (IMHO) this time around (as in "180 degrees" wrong) on the situation if his conclusion is that "Japan is worse off" (note that I only agree with Mish's viewpoint "once in a while"... I also tend to disagree with him with respect to his approach to the "deflation/inflation" argument as well). But I have a tremendous amount of respect for his work so far.

To lay it out like it is:

The company called the "Japanese government" has debt of up to 200% times that of the company called the "Japanese economy" (GDP) but the "Japanese economy" (i.e. Japan as a country) in aggregate still has plenty of savings (both in local and foreign denominated assets).

Now the company called the "USA government" located within the USA feeding (as in "parasiting" - just like any "government" does) on the company called the "USA economy" has a debt of up to 100% of the country's overall GDP but:

Point 1. 100% of that US debt has been borrowed from abroad - mostly because the local domestic pool of savings has been completely (totally) depleted years ago.

Point 2. 100% of the debt in the USA is very short term (3 months? 6 months? type of material) - a lot shorter than in most countries (even some in Europe believe it or not).

Point 3. Finally most of the GDP numbers in the US (up until last year at least) were comprising of mostly consumption and not much investment (70% versus 30%) where as in Japan the situation is still closer to a 60/40 ratio (if not even better than that? it was even better than that in China a few years ago - don't have the latest data for both countries).

Now let us put things in perspective because a lot of people tend to repeat what most bankers seem to get wrong... regarding...

Point 1: put simply, imagine I (USA) had borrowed from YOUR parents 100% of my $50,000 early salary, and you (JAPAN), had borrowed 200% of your $50,000 early salary from YOUR parents (Japanese citizens). Most wannabe bankers today would argue that "well, 200% versus 100% - Japan is clearly in worse shape". But if your parents still have plenty (loads) of savings (Japan) then YOU can still fuss around quite a bit - while I have to cross fingers that your parents (for mine are totally broke - and my parents already owe your parents as well some amount!) will keep on lending "me" more money (for I borrow from "abroad" - just like the USA does today). As a result JAPAN is in a much better position due to its massive amount of savings (both in domestic/foreign currencies) and local financing of the government debt.

Point 2: Also, time frame, very subtle but quite important, imagine I owe you $500,000 and I promised you the cash "all of it" for next week latest I swear to god - this gives me only 7 days to find the money. The chances I default on that debt are 100% (unless I print my way out of it and get my printer going 24/7 in an attempt to dilute my current pool of paper fiat IOU/promises). On the other hand if I owe you $1,000,000 but I have 10 years to find it then sure, I'm still stuck, but "stuff" can somewhat still happen. The debt in the USA is just like the ARM loans banks were providing to sub-primers, it's in a great proportion "short-term" material - waiting to reset big time in a few weeks? in a few months? As a result the company called the "JAPANESE government" is still somewhat better off - even though it's just a matter of "time".

Point 3: Finally, if I borrow $10,000 from you each year and yearly 70% of that money is spent in me partying building myself pools traveling getting me some plasma TVs and new imported SUVs - chances 10 years later I reimburse and make good on all the money are usually slim. On the other hand if I borrow the same $10,000 from you each year and I only spend yearly 60% on the same kind of stuff - this means I have "invested" what's left 40% like Japan has (which is a 33% increase when compared to just 30% like in the US) by building nets to fish and/or factories towards building "productive" assets, then this usually means I'm still more likely to reimburse my debt. As a result even in point 3, JAPAN is still better off.

As a result, because of 1. mostly foreign borrowing, 2. very short term borrowing, 3. quite poor GDP "I/C" ratio, the USA is in much worse shape than Japan whatever matrix you use - even though yes, sure, just saying "200% versus 100%" may be quite misleading. The USA has today no other option but to print it's way out - unless it finds more suckers (central banks around the world?) to borrow from in an attempt to postpone facing the issue. Wait. Not only that - the above problem was the problem we had "before" 2008, while we still had Bush and Greenspan in office - i.e. we had this problem already while having (supposedly?) a limited republic on our side (ouch) and Ayn Rand's reasoning with us from Greenspan's school (ahem). Now that we have Obama and Bernanke with us - the sky is the limit to the hanabi we can get. Not that I particularly like the combo "Kan/Shirakawa" of course...

.... If the USD drops more and more heavily and faster every month (to 70? 60? 50? 40?) while burping here and there with tiny cardiac surges faking up in the upcoming weeks/months we'll know who was right (Mish or Me)... Now both currencies will drop when compared to commodities that are fixed in volume - so GOLD should rise versus both (all) paper currencies. But assuming GOLD is the non-moving line - one car will be feeling as if it is going backwards much faster than the other one..
NOTE! I do not exclude the possibility of "international bullying". This means - I do not exclude the eventuality where the US would simply use its "force/power/army" to keep having Japanese continue lending "more and more" money to the USA (and I do not exclude also corrupted Japanese politicians from accepting this as a temporary solution to kick the can further down the road) - but the more we wait to resolve the current imbalance the more the end result scenario will hit a harder wall.

Japan has been doing everything it could to prevent the USD from losing value over the past 24 months - and I keep insisting, they can't do anything, but most bankers just keep on telling me no Marc you'll see one USD will be worth 110 JPY in a week. Still waiting I am - cares to reply the Yoda in me... :)

Note finally that the more Japan throws their good savings after US consumer debt the heavier the USD will fall the day JAPAN runs totally out of savings. We're witnessing the very first interplanetary "vendor financing" in history. And just like all good "vendor financing" stories - they usually do not end very well. I'll take anyone on the above three points... anytime...


Andy "In Japan" said...

Also, the USA debt as percent of GDP is much much higher, in reality, than the official number the government publishes. If you include guarantees of FNMA/FHLMC debt, social security promises, and the myriad of all of the other offsheet items not included the published number, the actual % is somewhere around 400% I believe. Plus GDP includes government spending, which is bogus in terms of being something of value, so that makes the percentage meaningless. Right, if Bernanke printed up a $5,000 trillion dollar bill and Obama spent it on building turtle underpasses for every road in the country, the official GDP would go up by $5,000 trillion, thus making the percentage of debt compared to GDP look smaller.

Marc Abela said...

I seldom laugh out loud while simply reading stuff on the internet, but your example with turtle underpasses will walk right into my small list of exceptions.
Japan just heavily debased its currency a few days ago in an attempt to dilute its own pool of wealth so that the Japanese government could ship more Japanese savings abroad to feed the needs of the only real obese fellow in the country, namely, the American government, all in an attempt to allow the American consumer to keep on buying Japanese products - this in turn "allowing" Japan to postpone having to restructure its economy in order to go and address the new needs of real existing customers... An entire country struck by the Stockholm syndrome... go figure...

Marc Abela said...

PS: Don't be fooled by the way in thinking the US government has "more" unfunded liabilities and unseen elements than other countries on the planet - very few governments today display accrued liabilities to the public (actually I would be tempted to argue that most people in the US have a greater sense of what is really happening to them and a greater evaluation of the "real" public figures out there than many countries in Asia or Europe). The accounting methods used today by most public sectors in almost all countries at all levels (municipal, provincial, federal - pick your feature) make Enron and Maddoff look like philanthropic NPO foundations in comparison...

Andy "In Japan" said...

Marc, thank you for pointing out that all governments lie and falsify economic statistics. It's good to bear that in mind, though I believe an honest economist could modify the official lie and the end result would give us something at least a little bit useful in making a judgement about the economy. BTW, I believe Obama and his gang did spend so called stimulus money on a turtle underpass...truth is stranger than fiction.

Marc Abela said...

Thanks for the prompt reply.
Well... I only agree half-way through with your comment regarding Obama's stimulus - if the people actually "wanted" and "could afford" any goods or services, they would have actually probably gone and simply bought them, and something tells me the same concept holds true for turtles as well, as in if turtles really want and really need a new underpass they most surely just freely go out and build it, so my guess is that you may well be even a tiny bit too generous with your comment, in that Obama's stimulus unfortunately most surely ranks "below" the level of a "turtle underpass". :)