This week’s Outside the Box is a little bit different. I’m going to start with a selection from Mohamed El-Erian’s latest note. Mohamed himself is soft-spoken and calm, and I tell you that because the piece that follows is as close to capitals, underlining, and bolding with lots of exclamation points as Mohamed can get. He continues to get more concerned about the direction of central bank policy around the world and its unknown and unintended potential consequences. I will just cut and paste part of Mohamed’s essay into this introduction.
I want to follow up with a presentation by Kevin Wilson at Blue Water Capital on Japan. Basically, this piece illustrates the potential problems created by the current philosophical direction that the Bank of Japan is taking in their country. Essentially, Kevin is talking about the policy failure of Abenomics and the unintended consequences of negative interest rate policies (NIRP). A major economic disruption in Japan would have significant effects on the global economy. His summary sentence?
Given Japan's massive debt and demographic headwinds, the oncoming recession may trigger an endgame that would involve a possible depression and eventual default and devaluation.
That speculation sounds a lot like what I was writing in Endgame and Code Red. While I see a little bit different outcome than Kevin does (in terms of what a default might look like), I think he has properly highlighted the concerns we should all have.
Now let’s look at Mohammed’s note:
Forced out of their mysterious anonymity and highly technical orientation, central banks have been dramatically thrust into the limelight as they have become single-handedly responsible for the fate of the global economy. Responding to one emergency after the other, they have set aside their conventional approaches and instead evolved into serial policy experimenters.
Often, and very counter-intuitively for such tradition-obsessed institutions, they have been forced to make things up on the spot. Repeatedly, they have been compelled to resort to untested policy instruments. And, with their expectations for better outcomes often disappointed, many have felt (and still feel) the need to venture ever deeper into unknown and unfamiliar policy terrains and roles.
For those accustomed to the conventional operation of economies and financial systems, all this constitutes nothing less than an unthinkable transfiguration for central banks. Yet the structural breaks have not stopped there.
What central banks have been experiencing is part of a significantly broader change whose effects will be felt by all of us, our children, and, most likely, their children, too. It is a change that speaks to much bigger and consequential evolutions in the global economy, in the functioning of markets, and in the financial landscape. And the implications go well beyond economics and finance, extending also to national politics, regional and global negotiations, and geopolitics.
Understanding the unplanned and, for them and many others, uncomfortable conversion of central banks from largely invisible institutions to the only policy game in town, provides us with a unique perspective on the much larger changes impacting our world. It speaks to the how, why, and so what by:
explaining how the global system has fallen further and further behind in meeting the legitimate aspirations of hundreds of millions of people on multiple continents, including those related to economic betterment, remunerative employment, and financial security;
detailing why the world is having such difficulties growing, why countries are becoming increasingly unequal, and why so many people live with this recurrent sense of financial instability and even distress; and
shedding light on why so many political systems struggle mightily just to understand fast-moving realities on the ground and catch up with them, let alone direct them to better destinations. By living in this world, most of us have already observed either directly or indirectly a set of unusual, if not previously improbable, changes.
It is a phenomenon that is being felt at multiple levels. And, so far, all this is just the beginning. In the years to come, this extremely fluid world we live in is likely to pull us further out of our comfort zones; and it will challenge us to respond accordingly. And we shouldn’t just wait for governments to make things better. Unless we understand the nature of the disruptive forces, including tipping points and T-junctions, we will likely fall short in our reaction functions. And the more that happens, the greater the likelihood we could lose control of an orderly economic, financial, and political destiny — both for our generation and for future ones.
To keep this introduction from getting overly long, I’m going to go ahead and hit the send button rather than adding my usual personal comments. Have a great week, and I think you will enjoy this weekend’s letter. It is guaranteed to make you think and is probably a little controversial as well. Let’s just say that it’s an open letter about economic policy to a potential future president.
Your continuing to be concerned about central bank policy analyst,
John Mauldin, Editor
Outside the Box
Japanese Policy Failure Means Disaster For Us All
By Kevin Wilson, Blue Water Capital
(Originally published on Seeking Alpha, March 8)
An underappreciated threat to the global economy involves the potential failure of Japan's NIRP measures, which, in conjunction with the apparent failure of Abenomics, may send Japan into its endgame.
Japanese interest rate, money velocity, inflation, GDP, trade, consumer, currency exchange,…