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People in the West, certainly Americans, have long had a fascination with the East, with many predicting an inevitable “Asian century” marked by economic and market dominance. I have long disagreed with the consensus on China and other Asian Tigers, and others are beginning to agree. Many problems stand in the way of the “Asian century.”

Japan dazzled Westerners with the speed of its recovery from the ashes of World War II. Japanese purchases of U.S. trophy properties such as the Pebble Beach golf resort in California and Rockefeller Center in Manhattan in the 1980s, on top of the leaping property and equity prices in Japan, convinced many in the West that Japan would soon take over the world.

Japan’s economic decline in the early 1990s did not curb fascination with Asia. It simply shifted to the rapidly-growing developing economies, the Asian Tigers. The original four, Hong Kong, Singapore, South Korea and Taiwan, were later augmented by the likes of Malaysia, Thailand, the Philippines and, of course, China — and more recently, Pakistan, Vietnam, Indonesia and Bangladesh.

The late-1990s Asian financial crisis only temporarily disrupted Western fascination with the East and the prospects for an “Asian century.”

The 2007-2009 Great Recession and financial crisis ended rapid economic growth in Western countries and, therefore, the robust demand for exports that were the mainstay of developing economies. Still, Western zeal for Asia persisted and many, for no logical reasons, believed emerging countries could independently continue to grow rapidly and, indeed, support economic activity in the sluggish U.S. and Europe.

Chinese real economic annual growth rates nosedived from double digits to a recessionary 6.3 percent during the worldwide downturn, but then revived due to the massive 2009 stimulus program. Easy credit fueled a property boom and inflation, and excessive infrastructure spending replaced exports as the growth engine. As with the Asian Tigers earlier, many thought Chinese growth was self-sustaining and unrelated to ongoing sluggish economic performance in North America and Europe, especially after Chinese GDP topped Japan’s in 2009.

There are five main reasons why it won’t get any easier for Asia:

1. Globalization is largely completed. There isn’t much manufacturing in North America and Europe left to be moved to lower-cost developing economies. At the same time, the West is basically saturated with Asian exports, and those countries are competing fiercely among themselves for limited total export demand. Also, exports are shifting among those countries as low-end production moves from China to places such as Pakistan and Bangladesh, much as they shifted out of Japan in earlier decades. As economies grow, a greater share of spending is on services and less on goods. This reality is a long-term drag on almost all the other Asian lands, except India, due to their goods-export orientation. This will temper long-term growth for Asian goods exports even after rapid economic growth resumes in the U.S. and possibly other Western economies.

2. The shift from being export-led economies to ones driven by domestic spending, especially by consumers, has been slow. Chinese leaders want this transition, but it is moving at glacial speed. At 37 percent, Chinese consumer spending as a share of GDP is well below major developed countries such as the U.S. at 68.1 percent, Japan at 58.6 percent, and even Russia at 51.9 percent.

3. There are government and cultural restraints. Almost all developing Asian economies are tightly controlled by governments. Top-down regimes stoutly resist reform and often persist until they’re overthrown by revolutions. The current Mao dynasty in China, as I’ve dubbed it, seems seriously worried about popular unrest due to the lack of promised economic growth and is reducing what little political liberty was previously allowed. President Xi is now the Big Brother with lots of little brothers insuring proper thoughts and actions, even at the local level.

In Malaysia, Prime Minister Najib Razak is enmeshed in a multibillion-dollar investment scandal. In the Philippines, crime and drug trafficking are so rampant that President Rodrigo Duterte was elected on a platform of eliminating drug dealers, even by murderous vigilante squads. South Korea’s former president Park Geun-hye was thrown out over corruption.

4. Population problems endure. Despite the need for new workers in Japan as its population falls and ages, women are still discouraged from entering the labor force, and Japan continues to be unwelcoming toward newcomers. There’s no such thing as an immigration visa despite the fact that 83 percent of Japanese hiring managers have difficulty filling jobs, versus a global average of 38 percent in the last five years.

China also has a looming labor shortage and severe limits to economic growth due to its earlier one-child policy, which resulted in about 400 million Chinese not being born. Low fertility rates are also destined to reduce the populations of Hong Kong, Taiwan, Singapore and South Korea. At the other end of the population spectrum are Asian countries like Indonesia and India, whose population is expected to exceed China’s by 2022.

5. Military threats are growing in Asia, and could severely disrupt stability and retard economic growth if they flare up. China is exercising its military muscles by challenging U.S. military influence in the region by, among other actions, building military islands on reefs in the South China Sea. Japan is abandoning its post-World War pacifism and shifting from defensive to offensive capabilities. The Russians are also making military threats. The region contains five nuclear-armed countries: China, India and its rival Pakistan, Russia, and — most troubling — North Korea, which is testing long-range missiles. China isn’t happy about that, but it wants North Korea as a buffer between it and South Korea as well as a deterrent to its old foe, Japan.

The long-promised Asian Century of global leadership is unlikely to come to pass due to the completion of globalization, the slow shift from export-led to domestic-spending-driven economies, government and cultural restraints, aging and falling populations, and military threats.

The fascination with Asia started with Japan’s dazzling economic recovery after World War II, which culminated with purchases of U.S. trophy properties such as the Pebble Beach golf course and Rockefeller Center in the 1980s. Rising property and equity prices convinced many in the West that Japan would soon take over the world, but those bubbles burst in late 1989, sending the Nikkei index down 63 percent in less than three years and real estate prices down by 59 percent. Japanese economic growth has averaged just 1.1 percent since then.

With Japan’s decline, Western fascination shifted to the rapidly growing developing economies of the Asian Tigers, but the regional financial crisis that commenced in Thailand in 1997 started a domino-like collapse of neighboring financial markets and economies. With the 2007-2009 recession and financial crisis, export-led Asia suffered along with the economies of the U.S. and Europe. Yet Westerners didn’t abandon Asia, but shifted their admiration to China.

Chinese real economic annual growth rates nosedived from double digits to a recessionary 6.3 percent during the worldwide downturn, but then revived thanks to the huge 2009 stimulus program. Easy credit fueled a property boom and inflation, both of which were unwanted by Chinese authorities. Also, the growth in exports rebounded back to the 20 percent to 30 percent annual rates seen before the recession. As with the Asian Tigers earlier, many thought Chinese growth was self-sustaining and unrelated to ongoing sluggish economic performance in North America and Europe, especially after China’s gross domestic product topped Japan’s in 2009.

But like virtually all developing economies, China’s has been driven by exports that directly or indirectly are sold to North America and Europe. And those imports by the West are fundamentally curtailed by sluggish overall economic growth — the result of deleveraging, the working off of excess debt built up in the exuberant 1980s and 1990s. Annual Chinese export growth dropped from 20 percent to 30 percent in the 2000s to negative territory in February.

Further, globalization is largely completed, curbing that source of emerging-economy advance. And China’s huge total economic size had covered up its still-underdeveloped status. Even with the explosive growth in the past several decades, Chinese GDP per capita in 2016 was $8,030, or just 14 percent of the U.S.’s. Meanwhile, consumer spending in China amounts to just 37 percent of GDP compared to 68.1 percent in the U.S.

China won’t shrivel up and die, but it will be a much less important actor on the global stage as it shifts from commodity-munching exports, housing and infrastructure to consumer spending and services. The same was true of Japan starting in the early 1990s.

There may well be an “Asian Century,” but don’t hold your breath. It took about a millennium for the West to develop meaningful democracy, the rule of law, large middle classes that support domestic economies, and all the other institutions that are largely lacking in developing Asian lands at present.

5. Disinflation that started in 1980 continues with chronic deflation likely, especially as services follow goods in price retreats. The Federal Reserve and every other major central bank have a 2 percent inflation target. They don’t love inflation, which devastated economies and financial markets in the 1970s, when it rose to double-digit levels. But they fear deflation, which curbs consumer spending and capital investment along with economic growth as deflationary expectations set in. When price declines are widespread and chronic, buyers anticipate further declines so they wait for even lower prices. The resulting excess capacity and unwanted inventories force producers to cut prices further. Suspicions are confirmed, so buyers wait for still-lower prices in a self-perpetuating spiral. So deflation is self-feeding, as seen clearly for two decades in Japan.

Also, with deflation, the real cost of debts rises, making them harder to service and inducing financial problems and bankruptcies.

I remain convinced that widespread inflation results from overall demand exceeding supply, and deflation is caused by the reverse. Historically, governments create inflation in wartime with robust spending on top of fully-employed economies. That was the case in the late 1960s and 1970s, when Vietnam War outlays combined with War on Poverty spending. And that led to double-digit inflation rates by 1980. In peacetime, however, supply normally exceeds demand and deflation prevails. In the 96 years of war since 1749, wholesale prices rose 8.2 percent per year on average, but fell by 0.45 percent annually in the 170 years of peace. Assuming that the Trump administration, China, Russia and Middle East terrorists don’t drag the U.S. into a significant armed conflict, deflation is more likely in the years ahead, at least by historical precedent.

6. “The bond rally of a lifetime” that I first identified in 1981, when 30-year Treasuries yielded 15.2 percent, continues. With their safe-haven appeal, lower interest rates abroad and prospective deflation, we look for 2.0 percent yields on the long bond and 1.0 percent on the 10-year Treasury note.

I’ve been pretty lonely as a Treasury bond bull for 36 years. Stockholders and others may hate them, but their quality is unquestioned, and Treasuries and the forces that move yields are well-defined: Federal Reserve policy and inflation or deflation.

In addition, I’ve always liked Treasury coupon and zero-coupon bonds because of their three sterling qualities. First, they have gigantic liquidity with hundreds of billions of dollars’ worth trading each day. So all but the few largest investors can buy or sell without disturbing the market.

Second, in most cases, they can’t be called before maturity. This is an annoying feature of corporate and municipal bonds. When interest rates are declining and you’d like longer maturities to get more appreciation per given fall in yields, issuers can call the bonds at fixed prices, limiting your appreciation. Even if they aren’t called, callable bonds don’t often rise over the call price because of that threat. But when rates rise and you prefer shorter maturities, you’re stuck with the bonds until maturity because issuers have no interest in calling them. It’s a game of heads the issuer wins, tails the investor loses.

Third, Treasuries are generally considered the best-quality issues in the world. This was clear in 2008 when 30-year bonds returned 42 percent, but global corporate bonds fell 8 percent, emerging market bonds lost 10 percent, junk bonds dropped 27 percent, and even investment-grade municipal bonds fell 4 percent in price.

Treasuries sold off with the “Trump Trade” after his election, but revived recently. This reflects deflation prospects since inflation rates and Treasury yields move together — up in the post-World War II years up until 1980 and then down ever since. Treasuries have also rallied lately due to their safe-haven status and thanks to having a higher yield than other developed country sovereigns, making them more attractive to foreign investors.

 

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