Thursday, August 27, 2015

Japan's Awful Demographics are Leading to Its Steady Decline

Japan has a major demographics problem.

The country has the oldest population, and the highest proportion of age 65+ adults, in the world. In fact, the size of Japan’s senior population is unprecedented in world history.

Seniors make up a significant portion of Japan's population. According to the latest estimates from Statistics Japan, over a quarter of the population is over the age of 65 and nearly 13 percent are over 75.

By 2030, one in every three people will be 65+ years, and one in five people will be 75+ years.

Think about that for a moment. Japan is the world’s first mass-geriatric society.

In 1963, Japan had only 153 centenarians. Today, there are more than 58,000.

However, a UN projection estimates that by 2050, Japan will have around 1 million centenarians. That is a population bomb of very old people.

Yet, the overall population is shrinking.

Young Japanese couples have lost interest in having children, to the degree that it is bringing down the population. It's not a new phenomena; it's been going on for decades.

The country’s population peaked in 2004 at 128 million, and is projected to shrink to 75 percent of its peak size by 2050.

So, the population is simultaneously getting smaller and significantly older.

This is already affecting pensions, health care, and long-term care, all of which have enormous costs. That’s bad news for an economy that has been struggling for decades.

Japan has the highest life expectancy for women in the world, at 87, and falls in the top 10 for men, at 80.

With the second lowest birthrate in the world (behind Germany), how will Japan care for this tsunami of seniors?

In 2030, one person aged 65+ years will be supported by two working-age persons, compared with 11.2 persons in 1960.

Japan’s birthrate of 1.42 is far below the 2.07 deemed necessary to maintain the population — a level that has not been recorded in Japan since 1973.

Last year, the nation suffered the largest natural decline in its population as the number of newborns hit a record low and the number of deaths rose to a postwar high — a reflection of the rapid aging of the population.

Even if the fertility rate picks up, the pool of women of child-bearing age itself is shrinking so there will still be fewer babies born.

The social implications of this concurrent collapse in the birthrate, and the huge rise in the number of seniors (even centenarians), come with major economic implications.

The number of young working adults isn’t nearly large enough to support the huge number of older, non-working adults. The nation’s social security system could collapse under the weight of this.

The basic math simply does not add up. It's clear that most of Japan’s seniors will have to find a way to keep working.

The large number of deaths in Japan is having other consequences as well.

As its population dwindles, more and more residences are being abandoned and left in disrepair. There are now eight million vacant homes in Japan, the New York Times reports. That’s significant for a nation of 127 million people.

Japan’s upside-down demographic pyramid is creating enormous economic challenges.

Japan’s debt is already at about 245 percent of its annual gross domestic product, and the International Monetary Fund has warned that its debt will be three times the size of its economy by 2030, unless the government acts now to control spending.

However, the country has been battling deflation for two decades, and the government has used fiscal and monetary policy to help raise the country out of its economic doldrums. But it hasn’t done much except to raise the nation’s debt to unsustainable levels.

Japan’s economy contracted at an annualized rate of 1.6 percent in the second quarter (April-June) as exports slumped and consumers cut back on spending.

Living standards have steadily eroded and per capita incomes today are 10 percent below the level of 1990, which is likely why Japanese couples stopped having kids.

The economic decline has surely created a depressing environment for the Japanese people, particularly for younger workers who will not have the same economic freedoms as their parents.

That’s aside from the fact that China overtook Japan to become the world’s second biggest economy in 2010. Japan had held the number two spot, behind the US, since 1968, when it overtook West Germany.

That was surely a huge psychological blow to the society, which witnessed its standing in the world decline in a measurable way.

Japan’s tax base is shrinking along with its population, which makes its debt all the more cumbersome. How much longer before the country faces a full blown debt crisis is hard to tell, but it seems like just a matter of time.

The only good news for Japan is that most of its debt is owed internally, rather than externally.

No matter, debts are always expected to be repaid. That's a troubling assumption for such an indebted nation, especially one with such awful demographic problems.

Sunday, August 23, 2015

How Will Falling Treasury Yields Affect Potential Fed Rate Hike?

On Friday, the Dow Jones Industrial Average suffered its biggest two-day point drop since the 2008 financial crisis. The Dow plummeted over 1,000 points last week -- the worst week since 2011.

Volatile equities markets and worries about the global economic slowdown are driving investors into safe havens.

Treasury yields dropped Friday for a third straight day, with the 10-year yield posting its largest weekly decline in five months and finishing at a nearly four-month low.

The yield on the 10-year Treasury declined 3.1 basis point to 2.052% on Friday, its lowest point since April 30.

Demand for Treasuries drives down yields. The US doesn’t need to induce desperate investors to buy when fear does that all by itself.

So, how might this affect the Fed's long-held plan to raise its key interest rate, which has been stuck at or below 0.25 percent since December 2008?

If Treasury yields are falling on their own, would the Fed essentially be in the position of trying to hold back the tide with a rate hike?

Or, would the Fed feel empowered to raise the funds rate since the downward pressure on yields would give them some cover, and room to maneuver?

The combination of lower international yields and higher Treasury yields has already increased investor demand, both foreign and domestic. Higher demand pushes yields lower.

Another consideration for the Fed is the continuing strength of the dollar, which makes dollar-denominated fixed-income assets additionally attractive.

A rate hike would draw in even more foreign money from around the world. The yield sharks are everywhere. And though Treasuries may be falling, they are still higher than yields in much of Europe and Japan, the other perceived “safe” zones.

For example, the German 10-year bund was yielding just 0.565% last week.

Raising the federal funds rate would surely create a flood of hot money into the US, searching for the combination of higher yield and safety.

That would crush already suffering emerging markets, which have been experiencing an exodus of investor money.

Moreover, the strong dollar is already punishing US exporters. American-made goods are less competitive against cheaper foreign goods.

A move higher in rates would only exacerbate the problem, raising the trade deficit even further.

An interest rate hike would also add to deflationary forces. In simple terms, a stronger dollar increases the risk of deflation.

Oil, which is priced in dollars, is already falling due to excess global supplies and weaker global demand. A stronger dollar would make oil even cheaper in the US.

That would be great for American drivers, but awful for US oil companies. The US is the No. 3 crude producer in the world. A lot of jobs and tax revenue are derived from the domestic oil industry.

The Fed has been expected to raise interest rates all year, something it hasn’t done in over nine years. But a combination of deflationary forces and a stumbling economy have kept policy makers from acting.

The Fed surely wants a higher funds rate in order to confront the next financial/economic crisis. We all know it’s coming.

With rates currently just above zero, the only place to go in the event of such a crisis would be zero, or even negative.

That’s a nightmarish scenario.

So, while the Fed is desperate to raise rates, outside forces are tying its hands, and are in fact driving rates down instead.

Thursday, August 20, 2015

After Defying Rationality, Stock Market Poised to Crash

If this stock market seems to defy both gravity and rationality, you’re not crazy.

Corporate profits are barely growing, yet the stock market has continued its uprward march this year.

However, largely because of oil-ravaged energy companies and the strength of the dollar, second-quarter earnings from S&P 500 companies are largely flat.

About 44 percent of the revenues from S&P 500 companies come from outside the United States, and the global slump is starting to hurt US markets.

Fully one-third of the companies in the Russell 2000 stock index do not earn any profits, the highest percentage in a non-recessionary period, notes Francis Gannon, co-chief investment officer at Royce Funds. And through the second quarter, a majority of the performance in the Russell 2000 index came from companies that lost money before interest, taxes, depreciation and amortization.

Corporate buybacks are artificially raising share prices, which has created a false sense of health. But cracks are finally showing.

The S&P 500 is now down 1.1 percent this year.

Meanwhile, the Dow is down 2 percent year-to-date, while the Nasdaq is up just 6 percent.

Despite this weak performance, stocks aren’t cheap. The US equity market is trading at a richer valuation than most others.

Professor Robert Shiller’s cyclically adjusted price earnings ratio (CAPE) for the S&P 500 stands at 27.2, some 64 percent above its historic average of 16.6. On only three occasions since 1882 has it been higher – in 1929, 2000 and 2007.

Market crashes followed each time.

In a normal world, stocks would be challenged to move higher in the absence of real earnings growth.

Yet, reality may finally be setting in. We may be witnessing the beginning of a long overdue decline in this six-year bull run.

Absent profits and earnings, how long will investors continue to play this game of roulette?

Historically low interest rates have provided few alternatives for investors. Up until now, there’s been little sense in buying government bonds, or putting your money in a bank CD (which seems positively old fashioned at this point) when the stock market has continued an upward ascent.

However, those ultra-low rates have driven a lot of people into stocks who would not normally be there. That money could exit the markets quickly once rates start to normalize, or if the markets continue to tumble.

The perceived safety of Treasuries and other safe havens, such as gold, could see huge inflows of money.

Another concern is the level of borrowing to fund stock investments. The use of 'leverage' to buy stocks is very near its peak.

According to the New York Stock Exchange, margin debt stood at $505 billion in June, the most recent figure available. That’s down just a bit from the April peak of $507 billion, but up 9 percent from the same period last year.

That's a recipe for disaster.

This is the third-longest bull market in 80 years. There is bound to be a significant correction (likely an outright crash) sooner than later, and it may have already begun.

Economies around the world are slowing, from the biggest to the smallest. That’s putting downward pressure on global markets and, worst of all, creating fear.

Markets don’t like fear; it creates a mad rush to the exits.

As the Romans once implored, "caveat emptor."

Or, in today’s parlance, "buyer beware."

Saturday, August 15, 2015

Global Economic Slowdown Raises Fears of Broad Recession

The signs of a global economic slowdown are everywhere, and they are numerous.

Economies around the world -- both big and small, developed and emerging -- are hurting.

Japan’s economy contracted in the second quarter (April-June) as exports slumped and consumers cut back on spending.

The world’s third-largest economy shrank at an annualized rate of 1.6 percent in the second quarter, after expanding 3.9 percent in the first quarter.

This is despite the fact that the Bank of Japan is engaged in a massive monetary stimulus plan intended to end two decades of deflation and economic decay.

Living standards have steadily eroded and per capita incomes today are 10 percent below the level of 1990.

It is a positively nightmarish scenario for Japan if its monetary stimulus policy is failing.

Then there's China, the world's second largest economy.

Though China reported that its economy expanded at a 7 percent annualized clip in the second quarter, no one believed them. And it was for good reason.

Chinese exports fell 8.3 percent in July, its stock markets have been crashing, and it is confronting the collapse of its real estate market.

Meanwhile, China’s index of producer prices declined 5.4 percent from a year earlier in July, the most since 2009 and and the 40th straight month of price decline, raising fears of deflation.

China responded by devaluing its currency this week. It was a rather blatant sign of desperation, indicating that its economy is much worse than officials are admitting. If that’s the case, it’s a very bad omen for the global economy.

Chinese authorities don’t just look desperate; they look clueless. Free markets aren’t manipulated markets.

In the same way that Wall St. is manipulated by bankers, China's markets are manipulated by government officials.

China has a decades-long history of dictating top-down, state-planned, authoritarian policies. The leadership simply implements policy by force of will. However, markets don’t work like that.

The Asian giant is trying a first-of-its-kind attempt at a communism / capitalism hybrid. The notion of such a thing seems schizophrenic, and perhaps it is finally proving to be so.

The decline of China’s economy is bad news for Brazil’s economy, which is heavily dependent on commodities exports (as are Australia, South Africa and other emerging markets).

Brazil is already in recession, and its economy will shrink 2.3 percent by the end of the year, says Bank of America Merrill Lynch. The bank also predicts a recession in 2016.

Brazil's currency is plummeting, having fallen 34 percent against the dollar this year to its lowest point since 2003.

Russia has been driven into recession by a combination of plunging oil prices and Western sanctions. Its economy contracted 4.6 percent in the second quarter, its weakest performance since 2009.

In short, without oil and natural gas, Russia wouldn’t have an economy.

Inflation plagues Russia; the annual pace of price growth has remained above 15 percent for several months, far above the central bank’s 4 percent target.

Eurozone growth has also slowed. The 19-nation economic bloc expanded just 0.3 percent in the second quarter, which followed a meager 0.4 percent gain in the first quarter.

Analysts at Capital Economics said the eurozone would likely continue slow growth.

Even our northern neighbor, Canada, is in recession as a result of collapsing oil prices.

Around the globe, the warning signals are flashing.

Commodities prices are collapsing. Many have fallen to bear market levels last seen in 2008. We all remember what happened then.

From Bloomberg:

"Eighteen of the 22 components in the Bloomberg Commodity Index have dropped at least 20 percent from recent closing highs, meeting the common definition of a bear market. That’s the same number as at the end of October 2008, when deepening financial turmoil sent global markets into a swoon."

The US has the world’s biggest, most powerful economy. Yet, it is not immune to the ailments of the rest of the world. The gravitational pull of a global recession would suck the US right into its own downward spiral.

As I’ve noted many times, the US economy is not what it used to be.

Our economy remains stuck at around 2 percent annual growth, well below our long term average of 3.3 percent annually. In fact, the US hasn’t topped the 3 percent mark in a decade — the longest such stretch in modern times.

In the minds of many Americans, things seem tenuous. Consumer confidence surveys continually show this.

Just 41 percent of Americans said the economy is good, and 57 percent said it is poor in a July AP-GfK poll.

Confidence is everything for an economy that relies so heavily on consumer spending; 70 percent of US GDP is derived from it.

When Americans hear about the economic woes, financial turmoil and outright recessions in other parts of the world, perhaps they’re asking, “What if we’re next?"

It’s a reasonable question.

Monday, August 10, 2015

The American Economic Decline Was Quite Predictable

Most Americans can feel it; even though the Great Recession has officially ended, things just aren’t getting better.

Household incomes are the same now as they were in 1995, after you adjust for inflation. That means that the typical American family isn’t any better off now than 20 years ago. This is likely why there’s so much interest in the minimum wage and income inequality issues right now.

Average hourly wages have been growing no faster than 2.2% a year — two-thirds as fast as usual. That’s hurting consumer demand, which drives 70% of our economy. Without adequate wages, people can’t spend enough to drive the economy to new heights.

Even falling gas prices haven’t encouraged more consumer spending, as had been predicted.

While unemployment may have fallen to 5.3%, over 6.5 million people work part-time jobs but want full-time jobs. That’s much higher than the roughly 4.5 million part-timers before the Great Recession began.

The official unemployment rate excludes 16.5 million people who are either too discouraged to look for work, or who can only find part-time jobs. The so-called U-6 unemployment rate, which does recognize these people, stands at 10.4%. That’s nearly twice the 5.3% U-3 rate the government and media typically reference.

Companies in the service sector (such as retail, health care and hospitality) account for about 80% of all US jobs. Unfortunately, most of them are low paying. That’s no way to build a thriving, middle-class economy. In fact, it’s why the middle class has been eviscerated.

Stagnant incomes have led to our economic decline.

The obliteration of the middle class has resulted in an economy that now just limps along, despite historically low interest rates and three rounds of quantitative easing by the Federal Reserve.

In other words, desperate measures don't really work anymore.

The US economy remains stuck at around 2% annual growth, well below our long term average of 3.3% annually. In fact, the US hasn’t topped the 3% mark in a decade — the longest such stretch in modern times.

America is not an export economy; we’ve long imported more than we export and have maintained a trade deficit since 1976, which is an albatross to our economy.

Instead, the US relies on domestic demand. Consumers must consume for the economy to grow at a healthy pace. But if consumers are squeezed financially (as US consumers have been for decades), consumption will weaken (as it has).

This is especially troubling for a nation with an $18 trillion national debt, that will not go away. Our debt is growing at a faster rate than the economy, meaning we cannot, and will not, grow our way out of debt.

That’s aside from the fact that economic growth is predicated on debt. No debt means no growth. It’s a nightmarish economic system.

Americans have grown quite pessimistic about our economic decline and about the future, particularly for their kids.

Most Americans say their kids will be worse off economically than they are.

The pessimism stems from high levels of student debt, the high cost of housing and the scarcity of well-paying jobs.

Sadly, social mobility has declined for the first time in generations.

In other words, the parents are right: their kids are worse off, except for the children of the wealthiest American families.

While corporate profits have reached all-time highs, wages have stagnated. This is greed of the highest magnitude, and it has only served the elite 1% who control our economy, and our politics.

There isn’t likely a happy ending to all of this until there is a very unhappy, turbulent ending to the current system.

Once there is a major crash — bigger than the last one, perhaps — then there will be an essential need to realign and begin again, with an economy that favors and builds the middle class, and one that provides ladders for the lower classes to join it.

Wednesday, August 05, 2015

US Economic Growth Remains Weak as Global Stresses Grow

Historically, from 1947 through 2015, the annual GDP growth rate in the US has averaged 3.26 percent. However, GDP growth has slowed considerably in the last decade. In fact, the average growth rate has been below 2 percent over the last ten years.

The aftermath of the Great Recession has been harsh, and the economy has been unable to realize the robust growth rates that typically follow recessions.

Since the economic recovery began in mid-2009, annual growth has hovered around 2 percent, well short of the nation’s historical average of 3.3 percent.

This has occurred despite the fact that the Federal Reserve has held short term interest rates at a remarkably low level of between 0 percent and 0.25 percent since December 2008. That’s seven years, if you weren't counting.

Incredibly, the Fed last raised interest rates more than nine years ago, in June of 2006. From a historical perspective, that’s nothing short of stunning.

However, the utilization of near-zero interest rates isn't the only extraordinary tactic employed by the Fed to prop up the stock market since the 2008 financial crisis.

The central bank also utilized another exceptional monetary stimulus measure: buying up government bonds and other assets (better known as quantitative easing, or QE), which has fueled one of the longest bull markets in history.

In other words, the Fed has created a massive stock market bubble, along with concurrent bond and housing bubbles. We’re right back to 2007 pre-crisis levels, with all the associated risks.

The problem with reflating the bubble is that all bubbles eventually burst.

In the process of blowing these bubbles, the Fed has expanded its balance sheet to a whopping $4.5 trillion. Unwinding that could create problems in the bond markets for years to come.

Despite the Fed’s historic and Herculean measures, the US economy continues to muddle along, still incapable of reaching its longterm average growth rate.

Gross domestic product rose at a 2.3 percent annualized rate in the second quarter, after growing just 0.6 percent in the first quarter.

Yet, according to leaked documents, the Fed projects the US economy will steadily decline through at least the year 2020, eventually falling to a mere 1.74 percent annual growth rate.

That’s very troubling.

After all the Fed has done, this is as good as it gets? We can’t even reach our longterm historical average growth rate of 3.3 percent? After previous recessions, the economy was generally booming, following the predictable pattern in boom and bust cycles.

The current economic expansion, which began following the end of the Great Recession in June 2009, has been the weakest of the post–World War II era. GDP has risen about half as much as in the average post–World War II era recovery.

One has to wonder how bad things would have been if the Fed hadn’t lowered interest rates to near zero, and expanded its balance sheet to $4.5 trillion buying Treasuries and mortgage bonds?

That’s why this is all so worrisome. The results have been so lackluster, yet the risks have been raised to frightening levels.

When there is another shock to the economic and/or financial systems, where does the Fed go from here? Negative interest rates?

Is QE4 merely a matter of time?

Our continual economic weakness, and the crashing of commodities prices, lead me to doubt the Fed’s ability to raise rates this year, as projected.

Many commodities have fallen to bear market levels last seen in 2008. We all know what happened next.

From Bloomberg:

"Eighteen of the 22 components in the Bloomberg Commodity Index have dropped at least 20 percent from recent closing highs, meeting the common definition of a bear market. That’s the same number as at the end of October 2008, when deepening financial turmoil sent global markets into a swoon."

That’s a flashing warning signal that shouldn't be ignored.

There’s no concern about inflation at present. As I noted previously, the real concern is deflation. Given that reality, how can the Fed possibly raise rates? In my estimation, it can’t.

The entire global economy is slowing, and the US won’t remain immune to it.

China’s economy is slowing, and it is grappling with the bursting of its real estate and stock market bubbles. The Latin American economies are a mess. Canada is in recession. Additionally, Europe remains mired with problems, not the least of which is the Greek debt crisis.

In fact, Standard & Poor’s just downgraded its outlook for the European Union to “negative” from “stable.” That’s an ominous warning sign.

The EU is in the midst of its own massive QE program, and that has S&P concerned.

The signs of a potential global recession are clear, and they are growing.

That’s why I don’t believe the Fed will be in any position to raise interest rates this year. Events are rapidly spiraling far beyond its control.

Most troubling, the Fed appears to be out of artillery, and won’t have the necessary tools when the next shock inevitably strikes.

That’s what is most worrisome, because it is only a matter of time.