Richard Koo: China’s “Balance Sheet Recession” Has Already Started | (Jack’s Final Episode)
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Hey, everyone. Before we get into it, I do have some big news. This will be my final episode of forward guidance. The very talented Felix Javeen, in whom I have complete and utter confidence, will be taking over as host of forward guidance going forward. I'll be leaving to start my own financial podcast and YouTube channel called Monetary Matters, which we'll include links to in the description. Oh, and by the way, if you already know what a balance sheet recession is and you wanna get immediately to the China part in this interview, skip to the 15 minute mark. I wouldn't do that, but just so
thank you for having me. It's a great pleasure.
The pleasure is is all mine. Richard, let's start off the concept of a balance sheet recession. You first, discovered this very relevant to what happened in post bubble economies, such as the, Japan in the 19 nineties as well as western economies after the great financial crisis as well as perhaps China right now. So what is the balance sheet recession, and how does it apply to to all those regions?
I came up with this concept of balance sheet recession around 1997 or so, 1996, 1997, trying to understand what was going on in Japan. And as a chief economist of Nomura, the largest investment bank in Japan, I have to be able to explain what was happening all around us after the bubble burst. The bubble burst 1990 and the economy kept on slowing down. Bank of Japan brought raised down to 0 fairly quickly. Nothing happened. We had a a fiscal stimulus. But every time you put in the fiscal stimulus, the economy responded. But when you removed it, it tanked again. No so called pump priming, the K
So in a balance sheet recession, the private sector, which includes households as well as businesses, is deleveraging and and paying down debt. Economics 101, mainstream economics theory, has traditionally had the the theory that businesses are always maximizing profits. But you you're saying in some instances, after recession, after the burst of a bubble, they they really wanna pay down debt even if they would make more money and make more profits by, borrowing more money. When interest rates are really low, they they delever. How did you see that concept play out after the great financial cr
Well, so the bubble burst 2,008, especially after the Lehman crisis. That was September of 2,008. And all these households suddenly decide not to borrow money, start paying down debt. And both in United States and Europe, if you look at the flow of funds data, there was a dramatic change from being a borrower, being a net borrower to a huge net saver. In the case of Spain, which, suffered very badly from this recession, the shift from being a net borrower to a net saver for the Spanish household sector was as large as 20% of GDP. And if the economy loses 20% of GDP almost overnight, of course,
this is a solution to a balance sheet recession one where the government borrows a lot of money because there are no private sector borrowers who who want to to lever up?
The problem with balance sheet recession is that everybody's doing the right thing. Right? And responsible and honorable thing that is to to repair their balance sheets with their cash flow so that at some point, your balance sheet's balanced again. So it's very difficult to tell to the private sector, please stop borrowing money and don't repair your balance sheets. Even if the government or even the dictator tell them to do that, that's not gonna happen. And if you remember, the banks are also not allowed to lend money to a bankrupt borrower. If bank examiner finds out tha
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