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Is Low inflation in Japan and China a Sign of Strength or Weakness?

Inflation rates are very low in Japan and China vs. the US and Europe. What's going on?
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Inflation data via St. Louis Fed, chart by Mish, US recessions in light blue

Inflation data via St. Louis Fed, chart by Mish, US recessions in light blue

Latest Inflation Numbers

  • US: 9.06% in June
  • China: 2.10% in May
  • Japan: 2.50% in April
  • Eurozone: 8.64% in June

Reflections on Managing Inflation

Pettis Tweet Thread 

  1. This, to me, is intellectual laziness: "China and Japan have managed inflation well, despite being exposed to big surges in energy and food costs. Both exercised reasonable control over their money supply and credit."
  2. There is an implicit assumption here that the only problems that matter are US and European problems. Because rising inflation is a problem in the US and Europe, the fact that it is low in Japan and China must be a good thing and a sign of policy success.
  3. This also assumes that Japanese and Chinese monetary policy works the same way as in US and Europe, and that all four economies suffer from the same set of imbalances.
  4. This simply isn't true, and suggests an almost incredible lack of nuance. Japan and China have the reverse problems that the US and Europe have. They both suffer from very weak domestic demand driven by extraordinarily low consumption shares of GDP.
  5. Japan has been trying unsuccessfully to reverse this for 30 years, and China for 15 years. The fact that neither has been able to do so to any meaningful extent is not a sign of policy success but rather of policy failure.
  6. It is also why they don't suffer from the same inflation problems that the US and Europe do. With consumption so weak, and most policy focusing on the supply side rather than the demand side it's not surprising that CPI inflation is low, and likely to remain low.
  7. The article argues that Japan and China have kept inflation at bay because of their tight control over monetary and credit expansion, but this only suggests that no one bothered actually to look at the monetary and credit data, especially in China.
  8. It makes as little sense to congratulate the BoJ and the PBoC for having "solved" their US and European monetary problems as it does to congratulate the Fed and the ECB for having solved their Chinese and Japanese problems. These are not the relevant issues.
  9. Unfortunately even many Chinese economists have the same US/Euro-centric orientation. They see low inflation in China as a sign of monetary and fiscal policy success rather than a sign of continued weakness in domestic demand.

What About Germany? 

Arguably the best management (using the term both loosely and crudely) goes to Germany. 

Until now, Germany did not have the swings to the high side like China and the US, or to the low side like Japan.

Like China and Japan, and unlike the US and China, Germany is an export dependent economy by design.

One Size Fits Germany Until Now

One of the flaws of the Eurozone is there is no single interest rate that makes any sense overall given massive differences in productivity, work rules, pension plans, and economic benefits.  

Until recently, Germany benefitted from an ECB interest rate policy that I have described as "one size fits Germany". 

The issue now Europe is at the mercy of its own inane energy policies with Germany at the the mercy of Russia and global sanctions on Russia. 

Has China Managed Anything Well?

China's growth was the envy of the world for four decades. 

However, the last decade was a mirage bubble of malinvestment in property and infrastructure. 

And for the last decade I have mocked those promoting the ridiculous idea that the yuan (renminbi) would replace the US dollar as the world's reserve currency. 

For at least a decade, China has managed nothing well, especially its property bubble and Covid. And now it's payback time. China's property bubble has popped and imaginary wealth has evaporated.

This is very bad for domestic consumption which makes China all the more dependent on export mercantilism which it desperately needs to shrink. 

Export Mercantilism 

All three export juggernauts, China, Japan, and Germany are at serious risk of imploding. 

Germany has additional problems of high inflation, dependence on Russian energy, senseless EU policies, senseless ECB policies, and rapidly rising internal Eurozone strife.

How Do We Measure Inflation?

Case-Shiller Home Price Index National and Top 10  2022-03

Before praising any country we need to take a serious look at how inflation is measured. 

Let me suggest that every measure is fatally flawed. 

These central bank two percent targets are a huge source of the problem. In the US, the Fed has blown three consecutive bubbles by not counting asset bubbles, especially housing as part of inflation. 

The above chart shows the absurdity of it all. China is just as bad, if not worse, and as an aside, so are Canada and Australia. 

China property bubble just burst. If one factored that into Chinese inflation, it would likely be negative right now, not 2.1 percent.

No Praise Anywhere!

Given there is not a central bank on the planet that has yet predicted a recession in advance nor shown any clues about letting asset bubbles brew, there should be no praise anywhere. 

There is a lot here for central banks to think about. But rest assured they won't (at least about the right things).

Scroll to Continue


The Fed, ECB, and Bank of Japan all still have ridiculous 2.0 percent inflation targets without any clue as to how to measure inflation. 

As for trying to reverse dependence on exports, China and Japan have failed for decades, and Germany does not want to change at all.

Root of the Crisis

Few even understand the root of the crisis. Problems started when Nixon closed the gold window on August 15, 1971. For discussion, please see Nixon Shock, the Reserve Currency Curse, and a Pending Currency Crisis

In 1971 President Nixon appointed the then Democrat John Connally as Treasury Secretary. That's when things started rolling.

Our Currency But Your Problem

Shortly after taking the Treasury post, Connally famously told a group of European finance ministers worried about the export of American inflation that the dollar "is our currency, but your problem."

On August 15, 1971 Nixon directed Connally to suspend, with certain exceptions, the convertibility of the dollar into gold or other reserve assets, ordering the gold window to be closed such that foreign governments could no longer exchange their dollars for gold. He also issued Executive Order 11615, imposing a 90-day freeze on wages and prices in order to counter inflation. This was the first time the U.S. government had enacted wage and price controls since World War II.

Reserve Currency Irony

The move was not temporary and it let governments inflate at will.

Importantly, the reserve currency became as much of a curse as a benefit. 

The reserve currency irony is that despite protestations of US advantage, no country wants the alleged advantages the US purportedly receives.

Global Consumers of Last Resort

The US is stuck with the reserve currency because we have the largest, most open capital markets in the world, the world's largest bond market, and a far better business climate than the EU, China, or Japan.

To ensure the US remains the curse holder, the EU and Japan still have negative or zero rates, China does not float the Yuan but props up corrupt SOEs, and Germany punishes the rest of the EU.

Everyone wants to export to the US, and they do.

Praise Where? For Nixon? Central Banks?

The problem cannot be fixed as long as governments can inflate currency at will. A gold standard was the last mechanism that forced governments to stay in line. 

Please don't express your ignorance by saying Bitcoin fixes this because it won't. The central banks that matter will never adopt it. Actions in El Salvador and Africa are meaningless globally.

And all this discussion regarding a new BRIC axis of Brazil, Russia, India, and China is also ridiculous. 

One does not get global reserve status by declaring intent. Conditions have to be met, and China does not come close. 

The Yuan Will Not Replace the US Dollar, Nor Will It Be Backed by Commodities

Please note, The Yuan Will Not Replace the US Dollar, Nor Will It Be Backed by Commodities

Also note China Seeks Ways to Avoid US Sanctions But a Deadly Embrace Complicates Matters

Unstable Setup 

It's a complicated mess globally, for literally the entire world.

The Eurozone has more stress than ever before, China's property bubble is imploding, global supply chains are a mess, and Biden seeks hugely inflationary clean energy policies.

On top of it all, there's a potential war between the US and China over Taiwan.

Good luck with that.

I do not know when this explodes into a major currency crisis, but it will. Gold, not Bitcoin will be the beneficiary.

This post originated on MishTalk.Com.

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