'Greed, Panic and Fear' After Japan Market Crash

"Tokyo Panic." "Market Meltdown." In three days, the Tokyo market lost almost $400 billion in value. Pretty scary stuff. It was enough to rattle traders and markets around the globe, at least for a few hours.

The sell-off was triggered by a government raid on the offices of Livedoor, a high-flying Internet company, amid allegations that company officials had cooked the books. Once the sell orders began flooding in, they overwhelmed the Tokyo Stock Exchange's trading capacity. And, of course, that caused even more selling and more panic.

As one analyst told The New York Times, it was a day of "greed, panic and fear."

Calmer heads eventually prevailed, bargain hunters moved in, and the market bounced back. But what's going on here?

For most of the last 15 years, Japan's stock market was so moribund it wasn't capable of triggering much of a panic. The world's second-largest economy seemed to have only two speeds, neutral and reverse, as prices plunged and flirted dangerously with deflation.

The experts said the country actually needed a little "greed" again. Japanese consumers seemed so traumatized by their country's fall from the heights of the 1980s (remember when Japan Inc. ruled the world?) that when their own property bubble collapsed, they simply stopped spending. Throughout the 1990s, the world's biggest savers kept $10 trillion stuffed under their futons.

While covering Japan's long economic malaise, I have occasionally turned to a very clever Canadian economist, Dr. Kenneth Courtis. Courtis is now a managing director for Goldman Sachs in Asia. He is one of those incredibly articulate "usual suspects" that television correspondents round up to explain the inexplicable (things like the Japanese economy) in 15-to-20-second sound bites.

When Japan was flirting with plunging prices and the threat of deflation, Courtis would put it this way: "Want to know what Grandma Suzuki won't spend? In the last ten years she's seen her house price fall by 70 percent. She's seen her equity portfolio wiped out. She's seen her husband restructured. Her kids didn't get the good job she thought they would get out of university. She looks at all this and says. 'Wait a minute. I've sacrificed everything for the last four decades for this!?'" Simple.

It was time to call to call Dr. Courtis again. Was the Tokyo market plunge just a one-off event, sparked by the accounting shenanigans of an internet firm and the mechanical failures of the Tokyo exchange? Only in part, he believes.

"The Japanese economy is in much better shape than it has been in a long time," Courtis says. But that has created some "giddy optimism" (sounds vaguely similar to "irrational exuberance").

While most the world was transfixed with China, Japan was getting its house in order. Banks began dealing with mountains of bad debt. Companies burned off their excess capacity from the boom years. Industrial production picked up on rising global demand for Japanese products. Those long-suffering Japanese consumers began spending again.

But Courtis said this prompted a renewed feeding frenzy at the Tokyo stock market. Since 2003, the benchmark Nikkei index has more than doubled.

"Investors were falling in love again with Japan," Courtis said. Some of those investors will now "feel they were jilted."

And that's not good either.

Courtis said the market turmoil is a useful time for a reality check. Yes, the Japanese market is growing. But it is growing at an estimated 1.8 percent, not the 4 percent or 5 percent that some investors seemed to believe.

Yes, Japanese exports are soaring again. But Japan has become enormously dependent on growing demand from China and the United States.

"The United states generates about 35 percent of world growth," Courtis explained. "China, about 15 percent." If growth slows in those economies, it will seriously impact the Japanese economy.

Japan faces serious challenges in the years ahead, Courtis said.

"Japanese interest rates are not going to stay low forever. Because of its huge deficit. … The government is going to have to raise taxes and cut spending."

And then there's the population time bomb. "Last year for the first time, more people died in Japan then were born," Courtis said. The population has started to shrink. Unless the country can reverse course, there won't be enough young people working to support all those who have retired.

As for the current problems of Livedoor, Courtis said many small Japanese companies, good companies, would suffer from the fallout.

Livedoor's brash 33-year-old founder, Takafumi Horie, had become a role model for many younger Japanese.

Horie had once famously vowed to shake up the Japanese establishment, run by its "club of old men." To many, he represented a new, modern Japan in which young people with good ideas could thrive and show independence, instead of spending a lifetime working through the ranks of a single company. Livedoor's success also helped lure many investors back to the stock market.

But now, Livedoor is accused of cooking its books, and reporting enormous sales and profits in 2004 when it might have suffered big losses. And if this turns into a Japanese version of Enron or Worldcom, Japan's market could lose a lot of its luster again. It could also affect capital investment in Japan, which had finally helped the Japanese economy turn the corner.

Courtis said that the Japanese economy still had a ways to go and that the recent market turmoil didn't help.

"Japan represents only about 7 percent of global growth," he said. "If Japan were growing at a normal rate, it would be twice" that amount.

While the United States and China are doing a pretty good job driving global growth right now, Courtis said we would all benefit from a stronger Japan.

"It's better to have a neighbor who's rich and in good health, than one that is sick."