I’ve been pleasantly surprised that some of my most popular posts are excerpts from the only history book I ever wrote, Panic, Prosperity, and Progress. Over this holiday weekend, I’ll be sharing, over the course of four days, the chapter dedicated to the inflation and bursting of the Japanese bubble of the 1980s. I think you’ll find some interesting parallels with China. You can read the first part here and second part here.
Japan’s economic growth did not, of course, go unnoticed by its stock market. The Nikkei 225 index, which stood at a price level of 1929 on May 31, 1970, grew steadily to 5359 by January 31 of 1973, an expansion of 177%. By August 31, 1981, the Nikkei stood at 8019, a growth of about 315% from the 1970 level. As tremendous as those returns are, looking at the long-term chart of the Nikkei, the growth was relatively steady and, in light of the bubble to come, quite muted.
The United States stock market was in the doldrums for much of that time, and the long-term bull market in U.S. equities did not begin until around 1982. During the 1980s, both the U.S. and Japan would enjoy spectacular rises in their equity markets, although Japan’s growth would overshadow that of the U.S. By October 31, 1987, even with the worldwide crash in stock prices, the Nikkei was at 26,646, a value 1200% above where it began in 1970.
Businessmen, scholars, and politicians all paid attention to Japan with increasing admiration and, in some cases, alarm. Lawrence Summers, who would in forthcoming years have a variety of senior roles in academia and the federal government, wrote in December of 1989:
Today, Japan is the world’s second largest economy…an Asian economic bloc with Japan and its apex…is clearly in the making. This all raises the possibility that the majority of American people feel that Japan is a greater threat to the U.S. than the Soviet Union are right now
The stock market in Japan, by December 1989, had a value of $4 trillion, which was 50% higher than the value of the entire U.S. stock market. Although as a country Japan is much smaller in terms of size, population, and economy than the U.S., it sported an equity market valuation substantially higher than the U.S., and Japanese stocks likewise accounted for nearly 50% of the entire world’s stock market valuation.
As with many bubbles, attempts at “reasons” were offered to explain away the extraordinary price levels. The most common was that Japanese accounting practices were extremely conservative and substantially understated earnings. In actual fact, Japanese accounting took great liberties, using a variety of gimmicks to mask any weakness.
The euphemism created for this was zaitech or “financial engineering”, in which positive financial information (such as profits from stock trading and other risk endeavors) flowed right to the profit statement, whereas negative information (like assets whose values had declined) would be sequestered to an off-the-books balance sheet (sound familiar?). As the stock market kept climbing, corporations who otherwise had no connection to investing would seek out gigantic, low-interest loans to invest in the market with the hope of padding their profits with speculative equity gains.
On the surface, the fundamental numbers were very elevated: the price/earnings ratio was, on average, 60, which was quadruple the similar metric for U.S. stocks. The valuation of individual companies were, in some cases, breathtaking as well. NTT Corporation, the equivalent of America’s AT&T, was itself worth most than AT&T, General Motors, General Electric, Exxon, and IBM all put together.
For a single telephone company in a relatively small nation to have a value greater than five of the largest, best-known corporations in the world was, of course, astonishing, but very few people were willing to declare a “bubble” of what had been such a long-running success story known colloquially as Japan, Inc.
Unparalleled Property Prosperity
As amazing as the Nikkei 225 was, it paled next to the growth in real estate prices. The value of property in Japan, spurred on by generous lending by Japanese financial institutions, became parabolic. In particular, the land in Tokyo, particularly certain coveted districts downtown, reached valuations that would have been unthinkable even a few years prior.
By 1990, the total value of property in Japan was estimated at $20 trillion, which was double the value of all the stock markets in the world. Thinking of this another way, the market was declaring at the time that the land in Japan was worth double what every public company on the planet was worth, including the very-richly valued companies of Japan itself (which, one could surmise, already owned a meaningful part of the aforementioned real estate). Take a moment to consider that.
Comparing property-to-property reveals other surprising figures. The United States, for example, is twenty-five times larger than Japan, but its estimated real estate value in 1990 was just one-fifth that of Japan’s. In other words, Japanese dirt had a value 125 times greater than United States dirt.
Lenders became more generous with those seeking credit, and the timelines for required payment stretched farther and farther into the future. Whereas 15- and 30-year loans are the standard in the United States, “multi-generation” loans became commonplace in Japan, with 90- and even 100-year payback periods. A family could buy into a house with every expectation that their grandchildren, two unborn generations in the future, would still be making payments.
In 1989 and 1990, when both equity and property valuations in Japan became commonplace in media, one of the most frequently-cited anecdotes was that the land on which the Japanese Imperial Palace sat was worth as much as the entire state of California. And if Japan was feeling that California was enough, it theoretically could have bought the entire country of the United States in exchange for the city of Tokyo, whose values were at that time equivalent.
Golf courses, too, became a particularly coveted form of real estate by the Japanese. The golf courses in Japan, at their peak, were alone valued at half a trillion dollars. And because land in Japan’s cities became so exorbitantly-priced, builders had to become increasingly-inventive about how to create a useful building on smaller and smaller plots of land. So-called “pencil buildings” began springing up: buildings so small that they could house only one office per floor.
One can grow numb to all the superlatives about Japanese land at this time, but one other anecdote illustrates how manic the situation had become: in the most-coveted section of Tokyo’s downtown, the Ginza shopping district, a minuscule three-square meter bit of land, unfit for absolutely any commercial purpose, sold for $600,000. It was large enough for a person to comfortably place a sleeping bag and lay down, but little else.
The desire to buy up assets spilled outside of Japan’s own borders. Real estate in Hawaii and the continental United States was acquired with increasing fervor, as were extraordinarily expensive works of art. Records were set as van Gogh’s “Dr. Gachet” painting sold for $82.5 million. The buyer admitted he paid $30 million more than he intended, but as easy as money was to make, particularly for this Japanese billionaire, the extra $30 million was worth winning the auction.
Americans began to have increasing angst about wildly-wealthy Japanese companies buying up such icons as Rockefeller Center, the Empire State Building, Pebble Beach Golf Course, and Paramount Studios, to say nothing of the hundreds of smaller, lesser-known properties and companies that Japanese was acquiring. It began to seem that Japan wasn’t just going to pass in front of the U.S. economically; it was going to take it over in the process of doing so.
The Japan That Can Say No
One with a contrarian mindset often looks to peaks in social awareness about a particular phenomenon or circumstances in order to speculate about the likelihood of a reversal. The “cover curse” is a simple example of this: that is, when a particular social movement, or personality, or other cultural phenomenon begins making the cover story of widely-read publications, a reversal of fortune or at least popularity is often at hand.
An extreme example of this came in the form not of a cover story, but of an entire book. In 1989, at the very height of Japan’s economic, equity, and property bubbles, The Japan That Can Say No was written and published. It was co-authored by Shintaro Ishihara, the minister of transportation and an important legislative Figure, and Akio Morita, the co-founder of Sony Corporation.
The book was an instant sensation, and it was considered quite controversial because one of the prominent points it made was that lazy, dim-witted American workers had been beaten by hard-working, educated Japanese competitors and, thus, would soon find themselves in a permanent second place.
It was a book full of defiance to the United States – the country to which the authors felt the Japanese should say “no” to – – which was extraordinary considering that America had laid all the groundwork for Japan’s prosperity in the preceding forty years.
Among other things, the book made arguments that:
• The U.S. dropped the atomic bomb on Japan out of racism, since they otherwise would have dropped the bomb on Germany (this conveniently leaves out the fact that the atomic bomb wasn’t ready or tested while the European theatre was still active);
• American businesses focus too much on financial engineering and mergers as opposed to the creation of quality manufactured products;
• The United States doesn’t make desirable products, which is why it runs a constant trade deficit;
• Japanese character is superior to that of Americans;
• U.S. product quality is low because U.S. laborer quality is low, particularly compared to the highly-educated Japanese worker;
• Japan should use its technology superiority as a strategic negotiating weapon; for example, Japan could threaten to provide the Soviet Union with important new technology unless the U.S. agreed to a given set of demands
A book with these kinds of assertions would naturally lead to some backlash, particularly considering how uncomfortable Americans already were with Japan as an unstoppable economic force. These worries would soon be abated, however, and the United States wouldn’t have to do anything to make the bravado in The Japan That Can Say No a moot point. Japan was poised for a long and devastating reversal of fortune.