Authored by Peter Schiff of Euro Pacific Capital,
Sock Puppet Kabuki: Nikkei Today Parallels Dot-Com Bust
The Japanese stereotype of excessive courtesy is being confirmed by the actions of prime minster Shinzo Abe who is giving the world a free and timely lesson on the dangers of overly accommodative monetary policy. Whether or not we benefit from the tutorial (Japan will surely not) depends on our ability to understand what is currently happening there.
For now most economists still believe that Abe has stumbled upon the magic elixir of economic revitalization. His commitment to pull his country out of the mud by doubling the amount of yen in circulation, and raising the nation’s official inflation rate to 2%, had conferred rock star status on the formerly bland career politician. But just one year after his first critical raves arrived, the audience is heading for the exits. As it turns out, the Japanese miracle may be a simple tale of confidence easily gained, and just as rapidly lost.
In many ways the 75% nine month rally in the Nikkei 225 (that began when Abe was elected prime minister in September 2012), and the subsequent crash that began on May 22, is not all that different from the turbocharged rally, and spectacular crash, that occurred in technology heavy Nasdaq more than a dozen years ago here in the United States.
At the time that Pets.com (the company behind the iconic Sock Puppet) made its IPO, other high flying tech stocks had racked up 1000% gains. While investors scratched their heads, pundits offered reasons why common sense no longer applied to the new economy. We were told that valuations, revenue and profits no longer mattered. And to an extent that now seems absurd, the investing establishment bought into the insanity. But then a funny thing happened, investors woke up and realized that they had nothing but a handful of magic beans that couldn’t grow a beanstalk. When the fog lifted, stocks plummeted…Wile E. Coyote style.
This time around investors in the Japanese market were similarly deluded by fairy tales. Leading economists told them that Japan could cheapen its currency to improve trade, use inflation to create real growth, increase prices to encourage spending, and drastically increase inflation without raising interest rates. In short, monetary policy was seen as substitute for an actual economy.