Japan’s exports for February were down a shocking 49.4% on a year-over-year basis. The Japanese economy suffered a fourth-quarter decline of 3.2% – twice the decline of its U.S. counterpart – and is expected to drop by a similar amount during the current quarter.

What went wrong? And, for us investors, are the low current prices of Japanese stocks a buying opportunity or a trap?

Partly because of its efficiency and my fondness for sushi, I have always been inclined to favor Japan and Japanese investments. In 1989, it was obvious that the market was overvalued and I said so – in the process alienating several of my friends who thought they had found safe career niches managing investment funds investing in Japan.

In the 1990s, it was obvious that whatever Japanese governments were doing didn’t work, so I welcomed the 2001 arrival of Junichiro Koizumi as prime minister, and from there wrote frequently about Japan’s growth prospects – until last year.

Until August last year, it looked as though I would be right in the long run, even if the Japanese stock market tended to droop. Since September, however, it has all gone wrong; Japan’s economic performance has gone from adequate to truly dreadful.

Pinpointing the date enables us to pinpoint the reason. In September, Japanese Prime Minister Yasuo Fukuda, who had supported Koizumi’s policy of public-spending restraint, resigned and was succeeded by Taro Aso, still of the long-governing Liberal Democrat Party (but from its opposing faction). Aso is an enthusiastic proponent of “stimulus” public spending programs, particularly on public works in rural constituencies. That’s the policy that notably failed to conquer recessionary conditions in the 1990s, leaving Japan with a public debt equal to 160% of gross domestic product (GDP).

Aso has already proposed four stimulus programs, raising Japan’s budget deficit from 3% of GDP in 2007-2008 to an estimated 11% of GDP in 2009-10. The public debt/GDP ratio is rocketing upwards, because of public borrowing and the decline in GDP. Interest rates, which had been rising gently towards normal levels in 2006-08 (though short-term rates had only reached 0.5%), have been reduced to zero again and the Bank of Japan (BOJ) has begun “quantitative easing” – buying up government debt.

Currently, there’s a general agreement among Western politicians that these are the policies to follow. So why haven’t they worked in Japan?

At this point, the London merchant banker in me is irresistibly tempted to snarl: “Because they don’t (expletive-deleted) work in general.”

My own preference is for balanced budgets, low public spending and high interest rates – you may not get much economic growth with those policies, but what you get you’ve earned – without burdening your grandchildren. Even now, some countries – such as Brazil – are following those policies, and doing quite well.

Setting aside the question of whether stimulative policies work in general – within a year or so we shall have tested them exhaustively in the United States and most of the western world – I do think there may be reasons why they work particularly badly in Japan. Japan has traditionally had very high savings rates; it still has a limited Social Security system and an aging population. Low interest rates may well therefore damage demand from consumers living off savings more than they boost demand by helping companies and other borrowers. While low interest rates boost exporting companies, that boost may simply raise the yen exchange rate to a level at which in a recession exports fall catastrophically.

As for budget deficits of 11% of GDP, if you already have a public debt in excess of 160% of GDP, you may well be at the point at which the extra debt and the uncertainty about how you are going to pay it all back eliminate any boost to demand that the budget deficits would normally bring.

It is thus clear that Aso’s policies will work less well in Japan than they would elsewhere. Indeed, they may make matters worse in Japan, even if they would be effective in some other countries.

Japanese voters will have a chance to choose something different at a Diet election due in September or before. The bad news is that, while the opposition Democratic Party of Japan is theoretically pro-market, its leader, Ichiro Ozawa, in practice is a former LDP stalwart, of the faction founded by 1970s’ kingpin Kakuei Tanaka that favored heavy public spending.

Furthermore, many of Ozawa’s supporters, from the former Social Democrat party, also favor heavy public spending, albeit on different things than the LDP barons. In other words, an Ozawa victory may not bring much of a policy change, at least on economics. What’s more, Ozawa himself has now been caught up in a campaign-fund scandal, so even though Aso’s popularity ratings are down to around 10%, the LDP still may win – which would boost Aso at the expense of the free-market Koizumi supporters.

The bottom line: In the election this year, if the Japanese people want the economic policies that seem to work, they will have to be damn clever about it. There are many supporters of free-market policies in both the LDP and the DPJ, but they are not currently represented among the leadership of either party.

Japan remains a country in which everything works beautifully – except the politics. But the country is still worth keeping an eye on, though, because if the politics change, the potential from a Japan with higher interest rates and lower public spending is absolutely gigantic.

Source:  Investing in Japan: Lots of Potential, Little Growth

Many of the market participants weren’t looking for an announcement or plans from the Fed to buy Treasuries today, but instead, were anticipating further discussions on how to proceed. It appears there has been disagreement on how to provide aggressive actions with interest rates already at rock bottom. The way they saw it, there were three options. One was to increase the TALF to buy frozen assets, another way was to expand purchases of mortgage backed securities and agency securities, or to begin buying long term Treasuries.

The Fed decided to go ahead and buy $300 billion of longer term Treasuries over the next 6 months to help improve conditions in private credit markets. The central bank will begin purchases of the Treasuries late next week and buy them 2 to 3 times a week and concentrate in two-year to 10-year debt. In addition, they said “To provide greater support to mortgage lending and housing markets, the committee decided to increase the size of the Federal Reserve’s balance sheet further by purchasing up to an additional $750 billion of agency mortgage-backed securities.” These additional purchases kick the tally for the past year up to $1.15 trillion.

The Fed also said they will consider expanding the Term Asset-Backed Securities Loan Facility (TALF) to include other financial assets. Broadening the TALF to include older, illiquid and lower rated securities could allow investment funds to repackage assets and sell them to a wider audience. In other words, the TALF would provide loans to investors and agree to take this illiquid debt as collateral. The Fed will also increase its purchases of agency debt this year by up to $100 billion to a total of $200 billion.

The 10 year note yields plunged to 2.48% from 3.01% late yesterday and marked the biggest decline since 1962. Since most mortgage rates are based on the 10 year, they are trying to drive rates down as they haven’t been falling with the traditional Fed rate cuts. Former St. Louis Fed president Poole said “We are not even close to the bottom and therefore the Fed is engaging in a massive quantitative easing. We still have a very serious recession in front of us.” Quantitative easing is the injection of funds into the economy as the main policy tool. This type of policy may continue until the Fed feels more comfortable. Oh, and by the way…rates were left unchanged in case you were wondering.

Now, with all of that being said, the dollar sold off quicker than funnel cakes at a state fair as Chuck would say. What we have here is a situation where the printing presses are running so much that they are about to overheat. Generally when we have money thrown from the helicopter and the government buying this much debt, it will ultimately cause inflation to soar. At this point, the only concern the Fed has is trying to stabilize the economy and really isn’t worried about heightened inflation or any other negative repercussions.

As Chuck has said on many occasions, when rates or yields fall, one of two things need to happen in order to attract capital. One is to increase rates, which we know isn’t going to happen, and the other is a general debasement of the currency. Well, the currency markets figured it out right when these moves were announced that a weaker dollar is what will be necessary to make the wheels turn. Not to mention that higher inflation, which is not a positive attribute for a currency, is the end result. It seems what Chuck has been harping on for a long, long time is now coming full circle.

This had to be one of the quickest currency moves that I have ever seen as the euro flew all of the way up to the 1.35 handle before I left for the evening. It was literally like watching the speedometer on your car climb as you push the pedal to the floor. The numbers just kept going and going…blowing past 1.31, then 1.32, and finally up to 1.35. We had the Swedish krona gain over 8%, Norway and New Zealand up around 6%, and the euro up 5% just to name a few.

The Dollar Index fell 2.7% yesterday to 84.595, its largest one day drop since 1971, and increased the dollar’s decline to 5.6% since March 4. As I came in this morning, there hasn’t been any type of sell off and the currencies remain in the same range as where we last left them with the euro holding the 1.35 mark. Gold also joined in on the mugging as it was trading around $940, when just several hours prior it had even dipped below $900. These types of huge movements obviously can’t be sustained so I’m sure we’ll see some type of correction, but remember what happened on the way down. We had a few massive movements downward and then a steady depreciation for several months. I’m not saying this will happen, but its certainly possible to see the currency market appreciate as quickly as we saw it fall.

In the midst of all the action, we did have some economic releases that I’ll mention as well. The second piece of inflation came out today and actually rose more than expected from January by .4% and pushed the annual core inflation rate to 1.8%, up from 1.7%. We also had the 4th quarter current account deficit narrow more than expected to $132.8 following a revision to the previous figure of $181.3 billion from $174.1 billion. Today we have jobs numbers, leading indicators, and the Philly Fed Index which are all expected to fall from previous numbers. On to the Big Finish…

Currencies today 3/19/2009: A$ .6817, kiwi .5461, C$ .8062, euro 1.3519, sterling 1.4314, Swiss .8786, rand 9.6275, krone 6.4437, SEK 8.0576, forint 220.77, zloty 3.3497, koruna 19.8855, yen 95.58, sing 1.5172, HKD 7.7516, INR 50.3112, China 6.8284, pesos 13.9501, BRL 2.2495, dollar index 84.028, Oil $49.70, Silver $12.86, and Gold… 937.17

Source:  Hold on to Your Hat

“Flows and technical factors are driving” the dollar, wrote currency strategists at Brown Brothers Harriman. “Demand for the dollar has been much stronger in Asia and Europe than in the U.S. in recent sessions. That may reflect the fact that fewer U.S. investment funds hedge equities than do Asian and European funds.”

And, as the stock market closes its worst month since October of 1987, many are still taking refuge in the buck.

The day’s numbers were grim, beginning with the Commerce Department reporting the biggest drop in consumer spending in four years. Spending fell 0.3% in September after being flat since June. Year over year, spending was down 0.4%, the first such decline since the recession of 1991.

In addition, the University of Michigan/Reuters consumer sentiment index dropped a record amount in October, plunging to 57.6 from 70.3 in September. The index projected that the holiday spending season will be the “bleakest” since 1980.

“The U.S. consumer is in major trouble, with wage and salary income growth evaporating, credit extremely tight or unavailable, home prices continuing to decline, household balance sheets stressed, and food and energy costs consuming a large share of budgets. A consumer-led recession is upon us, and it promises to be a serious one,” wrote Josh Shapiro, chief economist at MFR.

Finally, the Chicago Purchasing Managers reported the Chicago Business Barometer plummeted to 37.8 in October, its lowest level since May 2001.

Source: Dollar moves higher despite plummeting consumer spending – Sentiment index also plunges.

Take Libya, for instance. In 2006, the U.S. State Department removed Libya from its list of “state sponsors of terrorism.” That opened the door to over a hundred million dollars worth of U.S. investment into Libya. However that wave of investment funds now exposes foreign investors to multimillion-dollar terrorism judgments.

Lawyers representing victims of terrorist attacks that Libya allegedly sponsored before 2006 have notified at least a dozen corporations of pending lawsuits. Since Libya was sued prior to 2006 in connection with these attacks, the lawyers believe they can go after companies that invested in Libya after the State Department took Libya off the terrorism list. If a federal court in Washington, D.C. agrees, it will be open season on any of these companies.

The same logic would presumably apply to investments in any other country that’s removed from the blacklist in the future. What that means is the same lawyers who troll the Internet looking for deep pockets could come after anyone with even the most remote connection to a “state sponsor of terrorism.” If you fit the criteria I mentioned yesterday, a plaintiff’s attorney could serve you with a notice of a costly lawsuit – whether you win or lose.

When President Bush campaigned for reelection in 2004, he promised to protect Americans from what he called “the explosion in frivolous lawsuits.” So it’s very ironic that as he leaves office, plaintiff’s attorneys are gearing up for an orgy of such lawsuits.

MARK NESTMANN, Privacy Expert &
President of The Nestmann Group
www.nestmann.com

Source: Next Time You’re Sued, Be Sure to Thank Mr. Bush