Transcript
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Speaker: Welcome to another episode of Under the Banyan Tree, where we put Asian markets and economics in context.
Speaker: I'm Fred Newman, Chief Asia Economist.
Speaker: And I'm Harold van der Linde, Head of Asian Equity Strategy.
Speaker: On today's show, we tackle one of the great economic debates facing the region.
Speaker: Is China heading the way of Japan in the 1990s?
Speaker: We'll be comparing the macro and micro environments for both economies, including how issues like income levels, demographics and government policy are all stirring the debate.
Speaker: Absolutely.
Speaker: All that and more coming up right here on The Banyan Tree.
Speaker: Let's kick off with some historical context.
Speaker: Throughout the 1980s, Japan was booming.
Speaker: Nikkei index valuations were really high.
Speaker: Japanese equities had done very well.
Speaker: But in the 1990s, the bubble burst and years of rapid growth gave way to a sharp decline that took well over a decade to bottom out.
Speaker: Fred, let's start a conversation at the macro level.
Speaker: What parallels do you see between Japan back then and China right now?
Speaker: There are parallels there, and obviously pundits recently have taken this up as a theme that perhaps the mainland Chinese economy is going the way that Japan has because of these parallels that they are seeing.
Speaker: Now, some of these parallels are that Japan, for example, in the 1980s had an enormous real estate bubble with prices for not just residential real estate, but for commercial real estate also soaring up.
Speaker: And of course, that bubble deflated in the 1990s, and for three decades, the Japanese economy barely grew in aggregate.
Speaker: And obviously, there's a parallel that some people argue that perhaps China is looking at a similar risk because its real estate market is now looking very strong.
Speaker: soggy indeed.
Speaker: And so is that going to lead to another maybe lost decade in China?
Speaker: But it's not the only parallel.
Speaker: It's also the debt that is associated with it.
Speaker: So in the 1980s, you saw in Japan a giant amount of debt burden
Speaker: among households, for example.
Speaker: Similarly, in China, we've seen a big rise in debt as well coming through.
Speaker: And of course, there's now talk that perhaps China could go into a debt deflation period or what some analysts deem a balance sheet recession.
Speaker: That is that the value of collateral, that is real estate is declining, but you're left with a lot of debt.
Speaker: And because of that mismatch, it's a disinflationary problem.
Speaker: And then there's another paradigm
Speaker: Parallel here is worth mentioning, and that is the actually very weak policy response, at least initially in the 1990s.
Speaker: So Japan didn't go forth in terms of stimulus, at least initially.
Speaker: Yes, they eased monetary policy, but actually on the fiscal side, 1990s, they were a bit more cautious because they thought this is only two or three years and then we'll go back to our growth rate.
Speaker: That's what you get after these kind of bubble periods, right?
Speaker: That you think, oh yeah, we have a small correction, but
Speaker: This is a structural trend.
Speaker: It will go on.
Speaker: And therefore, the policy response can be a bit.
Speaker: And we see arguably some of that in mainland China now, at least according to some observers, that maybe the policy is not large enough.
Speaker: But Harold, there are other parallels certainly as well.
Speaker: Demographics might be one of those.
Speaker: Yeah, there are actually very interesting parallels.
Speaker: First of all, both countries are aging.
Speaker: Japan, of course, is more aged society now than China, but if you go back 20 years ago, it was actually fairly similar to where China is at the moment.
Speaker: But there are other parallels as well.
Speaker: For example, you can deal with aging, with getting immigration in certain countries.
Speaker: The US is very good in that, but both Japan and China don't really have a history of large immigration.
Speaker: And another parallel on the demographic front is probably the role of women in society.
Speaker: In China actually a lot of women work.
Speaker: Female labor participation rates are really high, below amongst the highest on the planet.
Speaker: In Japan that was not the case actually in the 90s, but more recently it's gone up.
Speaker: It's one of the ways that they've tried to deal with declines in labor that more women have started to work.
Speaker: On the demographic side, yeah, you could say, hey, there's some interesting parallels as well.
Speaker: Having now discussed that some of these things look really similar, there are, of course, some clear differences as well from an economics point of view.
Speaker: Yeah, there are about three broad differences that are very important, actually.
Speaker: The first one is that Japan was at a much higher level of economic development than where mainland China is today.
Speaker: The income levels were much higher.
Speaker: The income levels, yeah, and usually in economics it's measured relative to the U.S., as well the U.S. is taken as the most advanced economy in the world.
Speaker: And what that means is that actually mainland China has more scope to grow itself out of the problem because there's still a lot of catch-up potential.
Speaker: So that makes the problem potentially easier to deal with, and that's a big, big difference.
Speaker: The second one is that actually when you look at where the debt resided in Japan, it was largely the private sector.
Speaker: That is, households had levered up, corporations famously had levered up,
Speaker: In mainland China, it's mostly the state sector, government entities, local governments, state-owned enterprises that leveraged up.
Speaker: And in some sense, that may be easier to deal with because, of course, the government is not as balance sheet constrained as the private sector is.
Speaker: And I guess also China is a closed capital system.
Speaker: Japan is open, right?
Speaker: So money can flow in and out as it wants to.
Speaker: And in China, that's not the case.
Speaker: The money stays in there.
Speaker: There's enough money there, and if the government has much more control over where the money is allocated to, that obviously helps you to kind of get out of this issue.
Speaker: So just to make this very practical, for example, you have a real estate company that falls over, then you can say, okay, sorry, you go down, but those assets are now going to go to an insurance company who gets these assets for cheap and can actually do something with it.
Speaker: And that's the kind of stuff that they can do in China without...
Speaker: money leaking out of the system that, for example, other countries would struggle more with.
Speaker: That's right, and that actually leads to another big difference, which is the effects.
Speaker: So in the 1980s, you saw the Japanese yen soar in value, becoming arguably massively overvalued, which is not something you can say about the Chinese currency today.
Speaker: And so that already reduces some of the distortions.
Speaker: But Harold, there are also differences when it comes to the equity market.
Speaker: Japan's equity market obviously was famously...
Speaker: the bull market of the 1980s.
Speaker: It's not something we can really attach a label to in mainland China at the moment.
Speaker: No, no, absolutely not.
Speaker: So you're absolutely right.
Speaker: In US dollar terms, and that's partially because the currency was strong, but also in the market had run up a lot, the valuations of that market were really high.
Speaker: Japanese equities had done very well.
Speaker: In China, that's of course very different now.
Speaker: The valuations are low.
Speaker: Chinese equities over the last decade have not done very well.
Speaker: Pretty much flatlined actually.
Speaker: So we never really had that kind of frothy, bubbly atmosphere that you had in Tokyo and Osaka in the late 80s.
Speaker: So that's a key difference, absolutely.
Speaker: So a lot of parallels and differences, but maybe it's a good place to take a quick break.
Speaker: And when we come back, we should talk about the lessons that at least economists and investors have drawn from the Japanese experience and whether they're applicable to mainland China.
Speaker: So Fred, we've highlighted some key parallels between Japan in the late 80s and China at the moment.
Speaker: But we've also discovered that there are some really big differences in the way these economies work, such as, for example, the structure of their debt and these sort of things, right?
Speaker: The role of FX.
Speaker: So from here on, we try to draw a couple of conclusions, a couple of lessons really out of that.
Speaker: As an economist, what would you say are the key lessons we can learn from Japan for China now?
Speaker: So just looking at the Japanese experience, particularly of Japan in 1990s, that is after the bubble burst, one lesson is not to be too shy on stimulus.
Speaker: Because there was a sense that the Japanese initially were quite hesitant.
Speaker: QE, which Japan obviously adopted in the modern era, only came in really much, much later, a decade later.
Speaker: So they were quite out of the gate, a bit cautious on stimulating.
Speaker: And that perhaps in hindsight is seen
Speaker: as a disadvantage because it then meant that really that deflationary mindset could become more ingrained before the stimulus came and was much harder to get out of this.
Speaker: So don't be shy on stimulus as one.
Speaker: The other one is really you have to combine stimulus with structural reforms.
Speaker: Even Japan had actually enormous distortions
Speaker: in the 1990s and was very important to clean it up.
Speaker: For example, the banks were not incentivized to get rid of bad assets, for example.
Speaker: They kept them on their books and that obviously then meant that gradually the problem was festering in the financial system without being addressed.
Speaker: And so really taking much more forceful steps, writing off the debt, getting a clean slate.
Speaker: I got the impression a little bit that China's more willing to do that now than probably Japan did in the early 90s, right?
Speaker: They're talking about structural reform.
Speaker: That's right.
Speaker: There's talk about structural reforms, but it's not necessarily clear that we're moving at the pace that you might need.
Speaker: The other thing, of course, for China is also that on the stimulus side, there is a bit of caution, right, at the moment, at least relative to expectations.
Speaker: We haven't seen as big a stimulus boost so far, at least.
Speaker: And so there's a debate, a genuine debate, should mainland China do more in terms of support or is this just the right amount?
Speaker: And obviously that's an open question, but I think that's where some of the lessons come in.
Speaker: Well, they've got this new economic team that has been installed, what was it, February this year.
Speaker: I guess we'll hear over the next one or two months or so from that team what really their plans are going to be in terms of stimulus in the long-term direction of the Chinese government.
Speaker: And structural reforms.
Speaker: Right there still, we have the third-party plan come up later this year in mainland China that might give us more of an idea about stimulus.
Speaker: But Harold, what's the lessons for investors then?
Speaker: If you lived through the Japanese experience in the 80s and 90s and you're now looking at mainland China, what are some of the lessons you might draw in terms of your investment approach?
Speaker: I think one of the first lessons is that the unwinding of a market with high valuations is
Speaker: can take an awful long time.
Speaker: I mean, it took from 1989 to 2011 when the Japanese market bottomed.
Speaker: So these processes in the market can take a very long time.
Speaker: And as I said, one of the differences is that China never had that particular bubble.
Speaker: So maybe that's not as big as a hangover.
Speaker: But the other key lesson here is that if you would have put money into the Japanese market in 1990, of course, you would have lost money by the time it was 2011.
Speaker: It wouldn't have gone anywhere.
Speaker: However, you could have made still very good money by being very selective in that market, by looking at sectors that are emerging.
Speaker: For example, the automation names in the 1990s came up and they've gone up 10 times, these stocks.
Speaker: So instead of looking at the market just to say, I want to be in, say, Chinese equities, I think you need to take that away and say, no, I'm going to go much deeper.
Speaker: And there are 230 companies in China that have a market cap over $10 billion.
Speaker: They're really big.
Speaker: So you can do that in China and say, okay, I'm cautious on that overall market, the direction I'm not quite sure of, but I am really positive on certain consumer names or really positive on certain renewable names or these sort of things.
Speaker: That's what you need to do, be much more active and go much deeper in this market and more so probably than in other markets across the Asian region.
Speaker: And of course, investors didn't ignore Japan entirely.
Speaker: It may have shrunk in terms of its relative presence in global portfolios, but Japan still, right through the last three decades, was an important part of a key global equity portfolio.
Speaker: And so similar with China.
Speaker: And the size of China means that that will not go away either.
Speaker: I mean, if you are a market that accounts for, say, 2% of the Asian index, you might get marginalized.
Speaker: People just don't look at it.
Speaker: You can't do that with China.
Speaker: The market is so big that people will need to take a look at that.
Speaker: So it sounds to me, Harold, that really those parallels, there are some parallels there, but we have them taken with a pinch of salt because history doesn't exactly repeat itself.
Speaker: And these are two different economies ultimately.
Speaker: And it really much depends also on the policy response and really how that will evolve.
Speaker: Lumping mainland China into the Japanese Basque and saying that that's exactly China's destiny is probably overstated.
Speaker: No, and understanding both the parallels and the differences allow you then to also understand the nuances of how the market is going to perform and which sectors and which companies you should be looking at.
Speaker: So, Harold, you went to India recently, and I remember you told the story about, you know, the first Asian equity market was under a banyan tree at some point.
Speaker: And so I was wondering, how many people have you seen trading stocks in India under banyan trees?
Speaker: I have not seen many people trading stocks, but two things like this.
Speaker: First of all, while in Mumbai...
Speaker: I stayed in a hotel not too far away from the kind of circle where that banyan tree stood.
Speaker: So I went there to look around, oh there is a banyan tree, but I'm not quite sure if that is the banyan tree that we refer to where people trade it.
Speaker: But it is very close to the stock exchange, literally the Dalal Street comes onto that particular circle in southern Mumbai.
Speaker: So I went to see that.
Speaker: And then much later when I was traveling with my wife through Tamil Nadu, I once, we were in an area just north of Pondicherry, there was a fantastic, beautiful banyan tree on a meticulously kept field.
Speaker: And it stood on its own.
Speaker: And I thought, I gotta make a picture of this banyan tree.
Speaker: So I went there and it was a bit of a dirt road.
Speaker: So I went over the dirt road and there was a gate.
Speaker: I went over the gate, maybe I shouldn't have been doing so.
Speaker: So I went there and I put my tripod down and I made a picture
Speaker: And then I saw my wife basically waving at me to come back.
Speaker: And I saw why, because two security guards were running up to me and says I wasn't allowed to be there.
Speaker: But I got the picture of that particular banyan tree.
Speaker: It was a beautiful, very nice one.
Speaker: But yeah, banyan trees are here everywhere in Hong Kong as well.
Speaker: They're everywhere in Hong Kong, actually.
Speaker: So Hong Kong obviously has a lot of hills, very steep hills.
Speaker: And in the 19th century, they built a lot of retaining walls to prevent landslides.
Speaker: And over the years, St.
Speaker: Banyan trees have grown on these walls.
Speaker: And it looks beautiful here in the mid-level district.
Speaker: But they look like sometimes these trees, like they're going to take the whole wall down, right?
Speaker: Yeah, but actually it turns out the banyan trees help to reinforce the wall.
Speaker: So they're not cut down because they destroy the wall.
Speaker: They're just actually left there.
Speaker: And Hong Kong has about 1,200 of these banyan trees on about 500 of these retaining walls that help to secure these walls.
Speaker: And some of these trees are actually well over 100 years old.
Speaker: So it's integral.
Speaker: to, I think, the landscape of Hong Kong and the cityscape, if you will.
Speaker: And some of them, of course, look fantastic and just add a certain character.
Speaker: Oh, absolutely.
Speaker: But we're not trading stocks in Hong Kong under banyan trees as well.
Speaker: No, but the lesson we've learned is that it's safe to be sitting under a banyan tree.
Speaker: That's right.
Speaker: No apples falling on your head under a banyan tree.
Speaker: Well, we're going to have to bring things to an end there, folks.
Speaker: It's been great having you with us.
Speaker: And no doubt the Japan-China debate will keep on raging and give us plenty to talk about going forward.
Speaker: Indeed.
Speaker: Meanwhile, remember to check out our sister podcast, The Macro Brief and The ESG Brief.
Speaker: wherever you get your podcast.
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Speaker: Thanks again, everybody.
Speaker: Talk to you soon.
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