Tuesday, November 3, 2009

More Japan

Ambrose Evans-Pritchard of the UK Daily Telegraph jumps on the Japan-bashing bandwagon in his latest column. Citing a dramatic increase in Japanese Sovereign CDS, a massive debt/GDP ratio, and miserable performance from the BoJ, Evans-Pritchard sees a real possibility of a Japanese default.

"The debt situation is irrecoverable," said Carl Weinberg from High Frequency Economics. "I don't see any orderly way out of this. They will not be able to fund their deficit. There will be a fiscal shutdown, a pension haircut, and bank failures that will rock the world. It is criminally negligent that rating agencies are not blowing the whistle on this."

While I agree that Japan's situation is precarious, I do want to nitpick on one minor point. The spike in the Japanese Sov CDS wasn't due to a sudden fear of default per se. Rather, it was more a result of David Einhorn bashing both Japan and the ratings agencies at the Value Investors Conference 2 weeks ago:

My firm recently met with a Moody’s sovereign risk team covering twenty countries in Asia and the Middle East. They have only four professionals covering the entire region. Moody’s does not have a long-term quantitative model that incorporates changes in the population, incomes, expected tax rates, and so forth. They use a short-term outlook – only 12-18 months – to analyze data to assess countries’ abilities to finance themselves. Moody’s makes five-year medium-term qualitative assessments for each country, but does not appear to do any long-term quantitative or critical work.

Their main role, again, appears to be to tell everyone that things are fine, until a real crisis emerges at which point they will pile-on credit downgrades at the least opportune moment, making a difficult situation even more difficult for the authorities to manage.

This statement about Moody's was directly related to a discussion of Japan's economic woes. It's worth reading the whole speech to get the proper context. In fact, it's worth reading the whole speech, period. (I had wanted to post Einhorn's comments a couple of weeks ago when I first read them, but I didn't have a link for it at the time, and then got distracted by the Galleon stuff.)

Einhorn gave his speech on Oct 19th. The Japanese CDS started to skyrocket on Oct 20th. This is not a coincidence - the VIC notes were emailed all over the street by the end of the day.

Regardless of who said what first, the point here is that Japan is in trouble, and people are starting to notice.

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