History repeats itself in different hues – Japan vs US
This post is a guest contribution by Asha Bangalore* and James Pressler** of The Northern Trust Company.
Several questions pertaining to the Japanese economic crisis and quantitative easing have been trickling in as unprecedented economic and financial events unfold in the US. This Q&A is a bird’s eye view of the trying period of Japan’s economic history and recent economic and financial developments in the US economy.
Highlights of Japan’s Economic History 1989-2008
Q1. What is the all-time high of the Nikkei 225, when did it occur, and how drastic was the correction?
A1. The Nikkei 225 recorded the all-time high on December 29, 1989 when it closed at 38,915.97. By end-1990 it had fallen by over 38%, but reclaimed some stability afterwards, only losing a further 3.8% over the course of 1991 and 13.1% between 1992 and end-1995. As of end-November 2008, the Nikkei was at 8,512.27 – a mere 21.9% of its value at the peak.
Q2. Did other asset prices decline along with equity prices?
A2. A sharp decline in real estate and other asset prices occurred following the drop in equity prices. By mid-1992, real estate prices had declined by one-third. Many properties had been used as loan collateral in the late 1980s, and usually when their values were significantly inflated. In turn, this decline put significant pressure on the balance sheets of most banks.
Q3. When did the Japanese economy experience a recession following the decline in asset prices?
A3. The Japanese economy experienced three recessions between 1992 and 2003. The first recession, resulting in part from the bursting of the Nikkei bubble and in part from restrictive interest rates, officially started in April 1992, although headline industrial production had been contracting since Q2 1991. The official recession lasted until March 1994.
Q4. How did the balance sheets of households and companies fit in to all this?
A4: Households and firms had borrowed to buy assets, with the former increasingly buying on credit and companies leveraging overvalued assets. Consumer credit growth peaked at just over 80% on the year by the end of 1988, but had fallen to 53.6% one year later when the Nikkei peaked, and by Q4 1992 consumer credit went into a prolonged period of contraction.
Corporations began having problems financing their excessive loan portfolios in 1992, and reported non-performing loans (NPLs) rose by over 50% on the year. At the time, there were fears that the ratio of NPLs to total loans could exceed 14% – the ratio would eventually exceed 20%.
Cozy relationships between banks and corporations kept a number of loss-making businesses open as banks rolled over their debts, while poorly-structured bankruptcy laws and a general avoidance of corporate failure kept many companies in business even though they were stuck in a perpetual debt trap.
On a national level, corporate profits contracted throughout most of the 1990-93 period, with only four quarters of profit growth during a period where total profits fell by almost 50%.
Q5. What were the main policy responses by the government and the Bank of Japan?
A5: The Bank of Japan (BoJ) had been gradually raising rates during the late 1980s in an attempt to deflate the growing Nikkei bubble. However, as economic activity still carried some momentum after the Nikkei had peaked, the BoJ continued tightening until March 1991. During those 15 months, the BoJ increased the overnight rate a total of 190 basis points, to 8.56%, only to see industrial production start contracting and the effects of the bubble’s collapse roll onto the corporate sector.
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* Asha Bangalore is vice president and economist at The Northern Trust Company, Chicago. Prior to joining the bank in 1994, she was consultant to savings and loan institutions and commercial banks at Financial & Economic Strategies Corporation, Chicago.
** James Pressler is an associate international economist at The Northern Trust Company, Chicago. He joined the bank in 1993 and has been in Economic Research since 1995.
Source: Northern Trust – Daily Global Commentary, December 19, 2008.
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