More Debt, More Inflation: Japan's Counterexample

Japan has just announced a $490 billion support package to families and small businesses. This sizeable support structure is funded by more Japanese debt. While a few economists issue cries of concern about the size of the debt and the prospect of inflation, most economists and the Japanese lawmakers are unconcerned. With interest rates at 0% for 30 years, who could blame them? 

Yet the interesting part is that Japan's relative debt to GDP dwarfs that of the US. If more debt creates more inflation, why are these stimulus packages in Japan not creating more inflation? Yes, it is true that less immigration occurs in Japan and yes, it is also true that birthrates are lower. However, these factors do not seem capable of driving such an extraordinary difference in the mantra "more debt, more inflation."

Of course, no one truly knows the answer. That's part of the fun in opining on this process as opposed to advances in quantum computing or genetic engineering. However, for my part, I continue to see that more debt at some high level - such at 100% debt to GDP - slows the economy. In the famous equation that inflation equals money times velocity, it appears that increased money is thwarted by the slowing effects of massive debt on velocity numbers. The only chance of offset would be to use debt to fund productivity improvements, but increased productivity is incredibly unpopular - as we are seeing in India.

Is India the next China? The "Sacred" Productivity Problem

I have been spending more time thinking about India as a result of Modi's governance, investment observations of Indian leadership of American companies and personal interactions with Indians. As a friend of mine noted, "don't try to out trade people who invented numbers."

With that said, last weeks announcement that Prime Minister Nodi was abandoning the attempt to deregulate the agricultural sector. By bowing to the pressure of farmers, Modi has allowed incalculable damage to a people's ability to raise their standards of living. He complained that he "couldn't explain such a sacred thing to some farmers."

The phrase "sacred thing" is delightful. The truth is that gains in productivity fund increases in our standards of living. At the root of these increases are gains in agricultural productivity. While the US economy allowed the Great Depression to painfully shift employment into towns, Argentina stopped the transition. The result is that the US has gone on to gains, while Argentina has the most default-ridden of developed economies.

In the 2015 BRK annual report, Chairman Buffett writes (edited for brevity), "In 1900, America’s work force numbered 28 million. Of these, 40% worked in farming. The leading crop was corn. About 90 million acres were devoted to it and the yield was 30 bushels per acre. Then came the tractor. Today, we devote about 85 million acres to corn,but the yield is more than 150 bushels per acre - a five-fold gain. This is only half the story: The huge increases in output have been accompanied by a dramatic reduction in farmers. Today a tiny 2% of our 158-million-person work force farm - a twenty-fold gain." If farmers had been allowed to dictate (by democratic protests) this process, it is impossible to see how our standards of living would have improved without a basis in this 100-fold gain.

Interestingly, Modi was able to improve and simplify the tax system. Unlike the US which got rolled by the accounting profession into retaining nonsensical complexity, India now has a dramatically simplified system. However, without agricultural gains, India with its democracy seems a far less attractive investment space than China with its autocracy.

China Vs. US: Education

As China emphasizes "common prosperity," the leadership has cracked down on tutoring companies that provide educational advantages at great expense. The Chinese reaction to tutoring is that such education provides advantages available only to the wealthy. For such tutoring costs, families generally spend 20% of their income. 

It is interesting to see the same implicit "crackdown" occurring in the US. From the scandals around bought admissions to the removal of standardized tests, the leadership in the US is attempting to "level the playing field." Of course, admissions processes have long held a heavy hand in granting favor to those perceived to be operating at a disadvantage. 

But in China, ironically, the crackdown has impacted the private investor in tutoring companies while the changes occurring in US higher education has not affected private investment. The reason for this is that higher education has been purified of the private sector interests. 

It is clear to me that both systems are trying to emphasize a "meritocracy" approach and that the conviction of a system's worth has become a moral one - an increasingly murky distinction where self-rationalization and justification may be leading the way. Despite the structural weakness of the "meritocracy" thesis, its appeal is a potent force for investors and politicians. In this way, I am finding China and the US more common than different.