Bill Jamieson: World's bankers ask if US faces its own lost decade

JACKSON Hole, Wyoming, is a spectacular resort retreat for celebrities, from the actress Sandra Bullock to the footballer David Beckham. A less likely setting for sonorous pronouncements on monetary policy and airing worries over a coming "double-dip" recession would be hard to find. But Jackson Hole is a regular retreat for central bankers to chew over problems, and the gathering this weekend is no exception.

For the past few weeks there has been an intensifying rain of bad news on the US economy - from a sharp fall in house sales to low consumer confidence, rising unemployment and disappointing durable goods orders. Fears of a recession relapse are rising. Commentators warn that America's economy, driven for decades by what seemed an indefatigable household consumer, may be going the way of Japan, an economy that has suffered a "lost decade" and more of low growth and stagnation. And it has endured this despite resort to the very policies to which we are now looking for our own salvation - ultra-low interest rates and fiscal stimulus packages.

Thus it is Japan and the dreaded "D" for deflation that preoccupied the world's central bankers as they flew into Jackson Hole; the Bank of England being represented by the deputy governor Charles Bean. Little wonder that many now expect the US central bank will resort to another bout of monetary stimulus: "Quantitative Easing", or "QE2" for short. It is Federal Reserve chairman Ben Bernanke, faced with a downgrade in US second-quarter GDP growth from 2.4 per cent to 1.6 per cent, who is under the greatest pressure to consider QE2, particularly as the stimulus from the Bush tax cuts are due to end shortly.

But if markets were looking for signals that an immediate launch of QE2 was at hand, they were disappointed. Bernanke said only that the economic recovery "has softened more than expected" - a statement of the obvious - and the Fed "is prepared to provide additional monetary accommodation through unconventional measures if it proves necessary, especially if the outlook were to deteriorate significantly". Quite what would prompt additional Fed easing - as if recent developments did not provide ample evidence - was not made clear.

Japan became the example of "the fate to avoid" when America's housing and banking bubble burst so spectacularly in 2007-08. Matters have not improved since. News from Japan earlier this month of dismal figures showing GDP growth at just 0.4 per cent were overshadowed by IMF projections showing that Japan will soon be overtaken by China as the world's second largest economy.

But it is less this that troubles America so much as Japan's long years of sub-par growth. It is 20 years since the bursting of the great Japan asset bubble. Growth averaged just 1.7 per cent in the 1990s. But the country's problems did not end there. Japan entered recession in 2008, with 2009 marking a return to near zero interest rates. And it is the combination of low interest rates, low growth and persisting if mild deflation that sounds alarm bells in America.

Could the world's largest economy be facing something much more troubling than a bank crisis-induced cyclical downturn from which it will in due course recover? Are its problems structural and far deeper, pointing to a severe downward adjustment, not only in asset prices but in long-term growth expectations?

This "perma-slump" has taken a heavy toll on investors in Japan, and continues to do so. Every new dawn proclaimed by fund managers seems to be followed by a new darkness at noon. Last week the Nikkei 225 tumbled through the psychologically important 9,000 level amid concerns that the latest appreciation of the yen against the dollar - it hit a 15-year high against the US currency last week - would pull the rug from under an export-led recovery. Meanwhile, its ageing population and deep aversion to risk in the wake of the asset bust means Japanese households save much more than their American or European counterparts, making the economy even more critically dependent on an export sector now battling an ever-appreciating currency.

What would happen if America underwent a Japan-style slump? The projections are truly scary. I am indebted to Hector Kilpatrick, economic and fund manager guru at Cornelian Asset Managers, for the valuable insights he provided in a presentation at The Scotsman last Thursday. One of his showstopping tables set out starkly what might be in store for America, considering that both economies had real estate and banking bubbles that burst. The following summary list, drawn from research by Merrill Lynch, is a crude "overlay" simplification of what a Japan end-game might mean for the US. The key - and very scary - points are summarised thus:

n Interest rates will stay below 0.5 per cent till at least 2020

n Expect annual US GDP growth of 1 per cent for the next 20 years

n Dow Jones would be at 4,000 in 2030

n US house prices would be 45 per cent below current levels in 2030

Now that is an overly simplified tracing onto the economy of America what has happened in Japan. It is, however, by no means an isolated view. Albert Edwards, the uber-pessimist global strategist at SocGen, argues that the economic state of the US is "much much worse" than that of Japan a decade ago.

His predictions, picked up by Citywire last Friday, are that the S&P 500 will crash to 450 points - less than half the 1,053 level at which it was trading last week. "There is still too much hope about," he warns. "Until the mantra changes from ‘Equities for the long term' to ‘Bonds at any price' we will not have completed our Ice Age journey.

"The structural bear market has not reached the end. We have long said that the de-bubbling process would end only when equities became very cheap and revulsion in equities as an asset class hangs in the air like a fog."

That is about as Doomsday as you can get. But such views overlook several salient points of difference between Japan and the US. First has been a stream of above-consensus earnings announcements in recent months from many of America's leading companies. While all this can be dismissed as backward-looking, at least large parts of corporate America are in better shape than they were a year ago.

Second, it is doubtful that the US will wait around that long before announcing more monetary stimulus, and such action could well be followed by other countries - the UK in particular.

And third, America's business culture is different to that of Japan. It is less conservative, more flexible and one likely to respond more quickly to adversity and which will not baulk at structural reform if that is what it takes to get the economy moving again. Many of the bank personnel in charge in the run-up to the debacle have gone, and while a huge amount has still to be done in tackling the mountain of bad debt on bank balance sheets, there is a recognition of the need, and the will, to tackle it.

Bernanke may have been guarded at Jackson Hole last Friday, but QE2 still looks set to sail by the year-end.