Japan has been experiencing stagflation for almost 25 years. However, the country now has a new bold leader who supporters and opponents alike agree has embarked on the most bold and radical economic policy in recent memory.
Under Prime Minister Shinzo Abe, Japan has embarked on a massive Keynesian-style experiment for the third-largest economy in the world. Abe (and his appointed central banker) has launched a massive stimulus package, devalued the Japanese yen and launched a massive easing program. The economy grew in the first quarter and the stock market was up 80 percent over the past few months.
However, lately, Japan has seen extreme volatility in its stock and bond market. The stock market volatility in the past few weeks is akin to the type seen during the financial crisis here. Thursday, the Japanese stock market fell more than 5 percent, last week in one day it dropped by more than 7 percent. No one is sure what the reason is, but what is certain is that if Abe had not been in office, this would not be happening.
Many smarter people than I have already discussed what the potential changes for success and failure are. Whether it succeeds remains to be seen, but the consequences of failure are so great that it should frighten us if it doesn't.
Here are some reasons why we should all pray it does succeed:
Japan was the second-largest economy in the world until a few years ago, and is now the third largest.
Japan has not had real economic growth since a bubble burst in the late 1980s and early 1990s. The world was able to experience rapid growth during this time period despite Japan's non-participation.
However, the world cannot growth with a Japan in absolute turmoil. This is especially true when coupled with a rapidly slowing China, a recession in Europe and a tepid pace of growth in the United States. Altogether the three countries' combined make up over 60 percent of the world's economy.
In a recent newsletter, John Mauldin pointed out some of the following about Japan:
"It has two of the world's six largest corporations and 71 of the largest 500, surpassed only by the United States and comfortably ahead of China, with 46. Even with the rest of Asia's big companies combined with China's, the total barely surpasses Japan's."
If JPMorgan Chase or Bank of America is too big to fail, Japan is the equivalent of many of the largest banks. The country is so vital to the world that the world needs at worst a no-growth Japan.
The current seesaw every night in the country's $10 trillion bond market and the stock market is frightening. It will soon greatly increase business uncertainty for both large corporations inside and outside of Japan.
The failure of Abe would not only be the failure of stuck up Keynesian ideologues like Paul Krugman, it would mean the failure of the global economy. Unfortunately, right now all the world can do is sit back, watch and pray.
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