Deflation in JapanA jarring collapse in the stock and real estate markets two decades ago doomed the Japanese economy to painful deflationary conditions, and the country hasn't managed to crawl out since. With the U.S. now facing similar economic forces, deep deflationary conditions are nearly inevitable here as well, according to much of the conventional wisdom.

Investors who buy into the view have piled into supposedly safe assets like U.S. government bonds despite the meager yields they're currently offering. Steady income from solid assets doesn't sound like a bad deal in anticipation of perpetually falling prices, after all. And some investors calculate that relative yields mean the credit market is implying a 70% chance of Japanese-style malaise in the U.S.

However, last week's tremors in the Treasury market following a spate of better-than-expected economic data should serve as a reminder that investors could end up seeing the value of their bonds drop sharply if things turn out differently than that scenario of a deflationary spiral. And major structural and cultural differences between the U.S. and Japan mean that those simply using Japan as a template for how things will unfold here may be overlooking important factors.

Did Japan Make a Collective Choice?

To hear most deflationists tell it, the deflationary scenario is a matter of sheer economic determinism. Presumptions of human behavior like the perpetually mentioned effect of consumers deferring purchases as prices fall only to lead to a further downward price spiral are paramount.

Yet analysts recently have started to note that things are hardly that simple. Not only was Japan's lost decade not as dreaded as it is sometimes made out to be but it may in part have been a collective choice in the wake of the bursting of an epic bubble. And in stark contrast to what credit markets seem to be predicting, it may be a far more remote possibility in the U.S.

"Whether actively or passively, Japan made a social decision to entrench deflation," Morgan Stanley analyst Robert Alan Feldman wrote in a research report last week. Feldman points to "central bank institutions, demographics, the electoral system's representation of older citizens, and the current account balance" as factors that interacted to create persistent deflation.

Unlike the U.S. Federal Reserve, the Bank of Japan long lacked any explicit goals of price stability or inflation, for example. And Japan's famously aging and politically privileged population made deflationary conditions far more desirable then they might be in the U.S. Huge current account surpluses made financing large government deficits easy and helped reinforce deflationary tendencies.

A Very Different Turn Here?

And while many investors think deflationary spirals are inescapable, "escape was not only possible but was actually within reach in 2006," Feldman noted. "However, Japanese society decided to return to deflation."

With strong population growth, comparatively younger demographics, trade deficits and a tendency to favor growth over stability, the U.S. could take a very different turn. And that could easily wreak havoc on a complacent bond market expecting an inevitable rerun of Japan.

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ahhhhhh the goood old days when people used to hide the money under the mattres.thank you

September 14 2010 at 1:07 PM Report abuse +2 rate up rate down Reply

Deflation continues for the next 1 to 2 years and then the printing presses will continue to print 'dollars' full bore. This will result in incredible inflation rates, the likes of which we have never experienced in our lifetimes. Then the goal of all people being equal, i.e. broke, will have been achieved. Thanks 'Bama

September 14 2010 at 12:47 PM Report abuse +4 rate up rate down Reply

why would you buy anything from a goverment that is as inch from being broke

September 14 2010 at 12:27 PM Report abuse +4 rate up rate down Reply
1 reply to thepetermedic's comment

When we have a TAX DODGER like GEITHNER running the TREASURY why trust anything the GOVERNMENT (IF WE HAD ONE) DOES!!!

September 14 2010 at 11:54 AM Report abuse +7 rate up rate down Reply

Ok whats wrong with all u smart people who continue to hope that the STOCK MARKET will give only a FEW rich people in this country a profit.U all had better write your congressmen & senators & demand they try 2 have the crude oil removed off the commoditys market.When this is done then & only then will the economy here in the USA and overseas see any hope off recovery.Lets face it boys & girls all that money being spent on gasoline is NOT i repeat IS NOT going back into the economy.I am not going to explain Y,so U had all better do some homework and see for yourselves Y.Then U will all be on those phones making those calls.Until then God Bless America

September 14 2010 at 10:49 AM Report abuse +4 rate up rate down Reply

With a $13 trillion dollar debt, an extended year deflationary period will break the US government. What will your treasury bonds be worth then? Gold looks like about a 10**N times better investment, and N is bigger than you think.

September 14 2010 at 9:50 AM Report abuse rate up rate down Reply

when you are assuming your are making an ass r o u and me. thank you

September 14 2010 at 9:03 AM Report abuse -1 rate up rate down Reply

US Bonds are higher risk then ever. There is a move among liberals to force you to invest a certain percentage of your retirement funds into government bonds. They see this huge pile of money out there and cannot resist getting their hands on it. They will then spend all of it (oink, oink) and need to raise your taxes to pay the interest on your bonds. Please examine your IRA, 401k, 403b, or whatever you have and consider converting it to a simple investment account. You may have to pay some taxes up front, but it will almost certainly be less of a penalty than future tax rates when you withdraw it. Once again, your wonderful government thinks you're too stupid to see their thievery.

September 14 2010 at 8:59 AM Report abuse +12 rate up rate down Reply
2 replies to tmarsh1023's comment

Yep, they can then give YOUR MONEY to THOSES WHO WILL NOT EVER WORK an of course the ILLEGALS need THEIR BENNIES!!!

September 14 2010 at 11:58 AM Report abuse +4 rate up rate down Reply
mitch rochelle

no i think that its the republicans that want to invest our social security in the stock market. so the next time the super rich want to drive the market to disater theres goes our safety net for everyone that worked hard all there lives . so i say to republicans hands off our social security and medicare

September 14 2010 at 12:40 PM Report abuse -4 rate up rate down Reply

a house divided must fall.not may fall. better get your act togther or the house will fall with us in it,

September 14 2010 at 7:58 AM Report abuse +11 rate up rate down Reply
1 reply to toni's comment

Bonds do not appear to offer the growth that this recovery will demand. Many new things are happening and lots of kids are ready for the future. As always, very accurate selections of equities, will return far more than static investments. I believe that gold is now in the rearview mirror. Turn and face the future, with a smile. :-)

September 13 2010 at 4:23 PM Report abuse -5 rate up rate down Reply