The rise of corporate savings as an issue

by on April 10, 2013 at 7:26 am in Economics, Uncategorized | Permalink

Andrew Smithers of Smithers & Co and Charles Dumas of Lombard Street Research have recently made much the same point. Japan’s private savings – almost entirely generated by the corporate sector – are far too high in relation to plausible investment opportunities. Thus, the sum of depreciation and retained earnings of corporate Japan was a staggering 29.5 per cent of GDP in 2011, against just 16 per cent in the US, which is itself struggling with a corporate financial surplus.

Japan’s economic system is a machine for generating high private savings. A mature economy with poor demographics cannot use these savings productively. As Mr Dumas notes, US gross fixed business investment has averaged 10.5 per cent of GDP over the past 10 years, against Japan’s 13.7 per cent. Yet US economic growth has much exceeded Japan’s. Japanese corporations must have been investing too much, not too little. It is inconceivable that raising the investment rate, to absorb more of the corporate excess savings, would not add to the waste.

That is from Martin Wolf.  If you mix together a great stagnation, a shift of national income away from labor, higher income inequality, and the Ramsey rule, you arrive at some very strange economic states of affairs, ones I never thought I would see.  I also note that these high rates of Japanese corporate investment are not exactly concordant with the naive old Keynesian model.  I would suggest however that cutting the investment rate is not an answer per se, rather Japan needs a high investment rate but with better quality companies and investment opportunities, which will not prove easy to achieve.

Bill April 10, 2013 at 8:01 am

Or, they could distribute earnings to the shareholders, who would take care of the problem of spending the money.

Ted Craig April 10, 2013 at 10:20 am

Amen to that.

Yancey Ward April 10, 2013 at 10:59 am

Surely the shareholders and the market they participate in can read a balance sheet. Or is Buffett wrong?

JWatts April 10, 2013 at 11:54 am

That doesn’t really address the issue. The issue is mixing stock and a savings account together.

For example, do I want to buy Apple the Tech company (worth about $300 per share) or Apple the Bank account (worth about $150 per share). Mentally, I subtract $150 from the price and realize I’m actually paying about $300 per share for Apple Stock and paying another $150 into a bizarre third party savings account. As a practical matter, I’d much rather have an additional 1/3rd shares in Apple the Tech company and not be forced to invest into the savings account aspect.

Pshrnk April 10, 2013 at 11:56 am

Isn’t the “savings account” supposedly factored into the $300 stock price by the wise market?

rpl April 10, 2013 at 1:41 pm

No. It is factored into the $450 stock price (it’s actually more like $435, but presumably JWatts was rounding). JWatts’ point was that when you break out the two major contributors to Apple’s value, the two are very different investments, and it would be surprising if many investors really wanted them in that mixture. (It also makes the recent decline in Apple’s valuation more stark — it certainly wasn’t the cash pile that was depreciating — but that’s beside the point for this post.)

ila April 11, 2013 at 9:03 am

The explanation that Apple and Google are not distributing cash because they are concerned this makes them look like they are out of ideas has turned hollow. Tech watchers can presumably read a balance sheet. Management knows that if thing were to turn sour, the company is more likely to survive if it never pays a dividend. For management, it is all about the survival of the company. Indeed, as a Google common shareholder, you are entirely unable to influence the company. Google is run for the benefit of its engineers solely. Apple is run so that it will live longer than Microsoft.

Floccina April 11, 2013 at 10:28 pm

+1

Gabriel April 10, 2013 at 8:13 am

So, one would say that capital is not heterogenous, and this proves the Austrian point about the possibility for “malinvestment”. The Japanese seem to have been stuck in a cycle of it for 20 years.

Gabriel April 10, 2013 at 8:16 am

*Homogenous

Ritwik April 10, 2013 at 8:25 am

“Japan’s private savings – almost entirely generated by the corporate sector – are far too high in relation to plausible investment opportunities”

1. Cause and effect. The lack of plausible investment opportunities – the voluntary holding back of the production possibilities frontier – is what generates these savings in the first place. The question is, why isn’t the cash disgorged? Perhaps because of the circular holding patterns and lack of investor activism, but more importantly..

2. Pension plan outlays. Each Japanese company is a company + a rather pension fund. It is much better to think of corporate savings as invested in JGBs to match the implied future pension liabilities.

So no, corporate savings will not be taxed. Unless the Abe government wants to burst the bubble in JGBs and land itself with a creeping interest payment bill. Which would be fine, I suppose – you give interest to retirees and you tax them back.

Ashwin April 10, 2013 at 8:28 am

The corporate savings glut in Japan is nothing new and its a symptom of the deeply pro-incumbent crony capitalist sector that it is.

Most of the differences between Japan and the United States can be explained by the fact that the United States is an efficient crony capitalist economy whereas Japan is an inefficient crony capitalist economy. Essentially the rents that flow to incumbent corporates are divided up between the firm and the workers.

This inefficient crony capitalism also explains why unemployment is low and the price level is actually much higher than most other countries i.e. things are much more expensive in Japan. For more detail, see an old post of mine http://www.macroresilience.com/2010/12/15/the-different-shades-of-crony-capitalism/ .

A book by Richard Katz called ‘Japan: The System That Soured’ touched upon similar themes more than a decade ago.

JWatts April 10, 2013 at 8:31 am

l. I would suggest however that cutting the investment rate is not an answer per se, rather Japan needs a high investment rate but with better quality companies and investment opportunities, which will not prove easy to achieve.

This seems like putting the cart before the horse. Saying ‘we need a high investment rate but with better quality investments’ is just wishful thinking. It seems to me if you have high quality investments, you’ll attract capital. It does not seem logical that having a high investment rate will generate high quality investments, instead is seems logical that the average quality would drop. A lot of marginal, low internal rate of return projects will be funded.

I would agree it would be nice if Japan had quality investment opportunities, and they should actively seek them. However, it seems to me they would be much better served by letting their capital surplus hit the world market and be allocated to the best available investments on a world basis.

derek April 10, 2013 at 10:08 am

>you arrive at some very strange economic states of affairs, ones I never thought I would see.

Maybe it is the same thinking as the old money in Greece and Italy where you save because then you can maybe eat when everything goes to hell.

The tremors are occurring as we speak. The japanese bond market is halted again today. This isn’t news, it has been coming for a long while and any sensible person when they see a coming catastrophe plans for survival, which is always the best investment. What I’d be curious about is how much of the ‘savings’ is elsewhere than Japan.

derek April 10, 2013 at 10:09 am

Bond futures market.

collin April 10, 2013 at 10:56 am

What I find very concerning about Japan is, in the 1980s Japan was the all around functional and competitive society. (Just think the US in 1920s outside of Prohibition and historical racial issues, was the most functional society at that time.) Is this the punishment for success or is this long term demographic punishment?

This fits Karl Smith’s question of modern society, the more competitive, rich and dynamic the economy, the lower the birth rate. Singapore is the most functional and competitve society today and their birthrate is lowest in the world.

Can a society be very competitive and have healthly birth rates?

JWatts April 10, 2013 at 11:59 am

Can a society be very competitive and have healthly birth rates?

Could you define what you consider a healthy birth rate and why?

In the long term, the birthrate will be somewhat less than 2.1, assuming no significant changes to the death rate and/or off-planet migration.

collin April 10, 2013 at 1:15 pm

Let us say healthy rates for general population increases of 2.0 – 2.5 children per woman. This means the society population would not decrease over the long term. (The issue of immigration is assumed away although that is one (short-term?) way for countries like Singapore to avoid the Japanese trap.)

R Richard Schweitzer April 10, 2013 at 12:48 pm

OMG!

Pundits have become concerned with the redeployment of surpluses and the correlation of failure of redeployment with stagnation.

But of course the blackboard economists calculate everything in terms of “GDP” (a construct). No discussions about correlation with production, actual production, its efficiencies and margins, not consumption designated as “GDP.”

Who looks at the motives of managers managing the accumulated and accumulating surpluses in this age of Managerial Capitalism? What are the objectives of accumulating and not redeploying surpluses?

Mike Smitka April 10, 2013 at 1:16 pm

I’ve updated a graph I put together a few years ago on S-I flows in Japan. Not back-revised, it’s peak grading season, but I checked a few points and revisions are to the right of the decimal point so this is the overall picture:
http://1.bp.blogspot.com/-4vWxLT4RqwQ/UWWc3Z-0-LI/AAAAAAAAATI/9OHFolUg4ds/s1600/Japan+S-I.png

This term my teaching was on China, but over the next couple months I’ll be back to digging into Japanese data. The big swing in (net) corporate savings came as firms started feeling the post-bubble crunch. In contrast to the US, the big runup of (leveraged) real estate holdings in Japan’s 1987-91 bubble was the corporate sector, the household sector were net sellers of real estate. I need to check what’s happened to coporate debt….

mike smitka

Godzilla April 10, 2013 at 9:50 pm

If I stopped by for a rampage, would that help?

Bastiat April 11, 2013 at 4:44 pm

No.

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