The Japan Earthquake: The Cataclysm This Time

Japan has faced adversity before. This is different. But even amid radiation and rubble, the nation's not hopeless

The harbor city of Kesennuma in ruins on Mar. 16 Philippe Lopez/AFP/Getty Images

By William Pesek

At his first press conference, Prime Minister Naoto Kan called it a crisis, and for an hour or so that felt right. No nation is immune from tragedy, and the expectation is that slowly, with the help of friends, people of character dust themselves off and rebuild.

Then the videos began—of waters rising with horrible speed to swallow entire towns. Of shipping containers rolled like toys. Of roads turned to tofu and nuclear plants wheezing radiation. As a sense of proportion settled in, crisis rapidly proved inadequate. What Japan suffered on Mar. 11—a 9.0 earthquake, followed by a 20-foot tsunami, followed by a nuclear threat that stirred excruciating historic echoes—was three crises. A cataclysm unlike any Japan has faced before.

The death toll is expected to top 10,000, and nearly 400,000 Japanese have been left homeless. The emotional impact of all that loss and dislocation is incalculable. Markets, though, have their own calculus, and Japan's Topix index of 1,669 companies was brutal in its precision. On the first two business days after the quake, the Topix tumbled to its worst two-day plunge since 1987. In a country already wracked by nearly 20 years of stagnation, a decade of deflation, anemic employment, and competition from an ascendant China, the market's verdict was clear: It will be a challenge for the world's third-largest economy to remain so.

Perhaps the market overreacted. Analysts at Goldman Sachs (GS) and Morgan Stanley (MS) suggested there might be a buying opportunity in the chaos. Yet manufacturers from Sony (SNE) to Toyota Motor (TM) temporarily closed plants at a time when Japan can least afford to be idle. The Gucci and Hermès outlets that decorate Tokyo's glitzy Ginza are empty. Without the nuclear facilities that provide 30 percent of the country's power, rolling blackouts shuttered restaurants, bars, theaters, and mom-and-pop shops. "Continued stock turmoil and disruptions to production will drive the economy into an extremely severe state," says Masaaki Kanno, chief Japan economist at JPMorgan (JPM) in Tokyo.

Before Mar. 11, Japan was gasping for economic life. Gross domestic product shrank at an annualized 1.3 percent rate in the three months ended Dec. 31, forcing the Bank of Japan to pump 28 trillion yen ($346 billion) into the financial system. Since the cataclysm, BOJ Governor Masaaki Shirakawa has doubled planned purchases of exchange-traded funds, real estate investment trusts, corporate debt, and Japanese government bonds to 10 trillion yen and launched a program to supply financial institutions with 30 trillion yen in three- and six-month loans at 0.1 percent interest. The intent is to support asset prices while the panic abates, yet the Nikkei 225 index tumbled almost 11 percent on Mar. 15, before bargain hunters led a 5.7 percent recovery the next day.

As difficult as the short term will be, it pales compared with the very worst-case economic scenario: a debt crisis the likes of which the world has never seen. Investors fretting over Greece and Ireland will find their fiscal travails quaint if the nation with the world's largest public debt hits a wall. Japan's debt is about double the size of its $5 trillion economy. It's not a question of whether Japan is too big to fail; it's whether it's too big to save.