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Bond Outlook March 17 2010

Occasionally an analysis brings you up short and makes you rethink what you thought was obvious. Such is the case in the light of Koo's (Nomura) "balance sheet recession".

Bond Outlook [by bridport & cie, March 17th 2010]

Our starting point this week is the original analysis and thinking of Richard Koo of Nomura. He has coined the expression “balance sheet recession” to describe what is happening now in Western economies, and what Japan went through in the 1990s. In such a recession, the private sector is totally committed to deleveraging, i.e. both households and corporations reduce debt. There is not just an absence of lending to the private sector, but an absence of either the need, or wish, to borrow. Lack of borrowing means less spending or investment, and leads to a decline in GDP (and potentially a vicious circle of further declines).


The solution, says Koo, echoing Keynes, is for the government to spend more to make up for the reduction in private expenditure. Too bad if that means bridges to nowhere; at least GDP is prevented from falling off a cliff. Private sector deleveraging takes a long time (it took at least ten years in Japan), so welcome to the L-shaped recession!


All this makes sense to us, as we attached the label “L-shaped” to the recession from its very beginning.

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