It's a tale of two different countries. One is the second-biggest economy, whose 127 million inhabitants enjoy the world's highest standard of living. The other has 2 million people, annual per capita income of US$2,860 and an economy that's one-third the size of Nortel Networks Corp's market capitalization. They are Japan and Latvia.
The two may soon have something in common: The same credit rating. Moody's Investors Service Wednesday said it might cut Japan's "Aa3" credit rating two notches, putting it on a par with Cyprus, Greece, Latvia, Mauritius, Poland and South Africa. A one-notch downgrade would group Japan with the Bahamas, Chile, the Czech Republic and Hungary.
Wow! A Moody's downgrade, observes Paul Donovan, London-based head of global economics for UBS Warburg, "would make Japanese government bonds the lowest-yielding emerging-market debt in the world."
The point here isn't to malign the nations Moody's currently rates "A1" or "A2." Rather, it's to point out Japan's stunning reversal of fortune over the last dozen years.
It seems just yesterday that Japan's economy was the most feared in the world. US automakers were being left in Japan's exhaust, while Japanese companies were buying jewels like the Rockefeller Center, Universal Studios and Pebble Beach golf course.
Today, Japan Inc is experiencing the flip side of the go-go 1980s.
The Nikkei 225 stock average -- which peaked at 38,957 -- is now at level pegging with the Dow Jones Industrial Average, around the 10,000 level. And markets are again abuzz about a banking crisis.
Japan is where it is today because of denial about the depths of its problems. Even now, as ratings companies threaten more humiliating downgrades, officials in Tokyo are at a loss over how to fix things. Learning about Moody's downgrade warning, the most insightful thing Finance Minister Masajuro Shiokawa could say was that the news was "unfortunate." What's really unfortunate is the lack of determination to end a slump that's into its second decade. Japan's banking system remains crippled with so many non-performing loans that banks aren't lending.
That's hobbled conventional monetary policy and limited the benefits of aggressive government spending. Deflation is worsening as a result, making Japan's debts bigger in real terms and crimping corporate profits.
Prime Minister Junichiro Koizumi says he's committed to an economic reform drive that's stuck in neutral. He's right that banks need to write off loans that will never be repaid and Tokyo must end its reliance on unnecessary public works spending. Yet there seems to be little desire to actually change things.
This week, Koizumi convened a much-hyped panel to tackle deflation, the trend that has Moody's so worried. Yet new ideas were conspicuously absent from the government's six-page report titled "Issues on Deflation." Moody's claims its downgrade warning wasn't meant to crash Koizumi's anti-deflation confab. The news cast a dark and heavy cloud over the proceedings.
Policy makers here can dismiss pressure to change all they want. But in the eyes of Moody's, it soon may be no safer to buy Japanese debt than from some emerging-market nations. Being lumped together with economies like Latvia has to take a psychological toll on the average Japanese.
"While up to now the downgrades haven't had much effect on foreign-exchange flows, it appears that households saving for retirement are taking these concerns seriously and are starting to diversify out of yen assets," says Marshall Gittler, head of Asian currency strategy at Bank of America Corp.
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