Japan and the U.S.: A Zero-Sum Game?

The slump of 2008 was truly wrenching for the U.S., but the catalysts for a rebound (at least in the medium term) are starting to emerge. The coming economic stimulus should jolt the economy back to life later in 2009 and into 2010, although serious longer-term challenges remain. Those challenges (a rising budget deficit, persistent trade deficits, aging infrastructure) can be surmounted, and the U.S. economy has proven to be resilient in the past.

Our greatest strengths are relatively young demographics, a culture of entrepreneurship, a language that is the basis of business worldwide and an abundance of natural resources. In contrast, Japan appears to have few of these advantages and has instead relied on a culture of thrift in order to compete economically.

As noted in Columnist Conversation Monday morning, it looks as if Japan's economic slump may be much more protracted, despite any bullish signs a resurgent Nikkei might be giving. Is bad news for Japan good news for the U.S.?

The sharp drop in auto and electronics exports is just beginning to hit home in Japan. Major employers such as Toyota (TM - commentary - Cramer's Take) have cut production but have chosen to retain most workers for now, re-positioning them into "busy work" in order to buy time. With the yen hovering at around 93 to the dollar, it is unlikely that Japanese factories will be the first to come back on line when demand rebounds.

In the past, Japan has looked to weaken its currency to stimulate an export-led rebound. That would be much harder to do this time around. Corporate tax receipts are falling quickly, while the country's government debt load is among the highest in the world. That likely means that in order to create any domestic stimulus, the Japanese government will need to repatriate some foreign earnings in the coming quarters. If that's the case, the yen could breach the 90 mark against the dollar.

But it is the demographics differential that threatens to erode Japan's competitiveness over the medium and long term. According to the U.N.'s Population Division, Japanese households are having an average of 1.4 children (well below the 2.1 replacement rate), and when this is coupled with restrictive immigration policies, it has led to a steadily rising average age in Japan. Japan's life expectancy, already among the highest in the world at 83 years, could approach 90 in the next few decades, according to the U.N.

As this chart indicates, the U.S. is on track to have the highest percentage of workers under the age of 65 by 2050, compared with China, Europe and Japan.

The Reserve Bank of Australia analyzed the impact of aging demographics on economies, and concluded that "as fertility continues to decline faster in the home economy, the home currency begins a sustained appreciation, first in nominal then with a lag in real terms. In the medium and long runs, the nominal and the real exchange value of the home currency settle at appreciated levels significantly higher relative to baseline."

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David Sterman has been an equity analyst and financial journalist for 15 years, most recently serving as Director of Research at Jesup & Lamont Securities.