I’ve been watching the Japanese economy and stock market since the mid-Eighties. (I’ve written my take on the post-WWII reindustrialization of Japan in an earlier post.)
I want to write about the recent switch in finance ministers by the recently elected Democratic Party and, in a wider sense, lessons for the US from the Japan of today. As the first step in doing this, though, in this post I want to give a thumbnail sketch of how I think the Japan of today–which is just completing its second consecutive “Lost Decade”–came to be.
Recapping my earlier post
It seems to me that the first, and most essential, step in any successful economic leap forward by an emerging country is an implicit or explicit political pact:
–the current generation agrees to create a favorable environment for both technology transfer from abroad and the development of local industry–all with an eye toward building export-oriented manufacturing. This means long working hours, low wages, deferring consumption and a loss of current national wealth through an undervalued currency.
People do this so their children and grandchildren will have a better life. Post-WWII Japan is the standard example of the success of this strategy. The sacrifice of workers of the Forties-Seventies has created the immense wealth of today’s Japan.
My view of the Japanese “bubble economy” (1986-1989)
During the “bubble economy” of the second half of the Eighties, Japan took two steps that proved to be horribly misguided:
1. The banks raised tons of cash in the Tokyo stock market to satisfy international capital adequacy requirements. But the banks were never designed to be anything more than conduits for national saving to support industrial conglomerates. They ended up making highly speculative real estate and other loans, and basically lost all the money.
2. Manufacturing companies, perhaps anticipating the aging of the workforce, made large capital investments in productivity-enhancing machinery. Unfortunately, a lot of it was wasted. It was not spent on genuinely new products or processes, but instead just increased the amount of Eighties-era equipment on hand, making the firms more vulnerable to competition from Korea, Taiwan and China–or to innovation from Silicon Valley or elsewhere.
Popping the bubble
In late 1989, Mr. Yashshi Mieno became governor the Bank of Japan. He quickly raised interest rates in order to pop the speculative economic bubble. This action stopped the speculative fever. In short order, it also laid bare problems 1 and 2 for all to see.
What was the reaction of government and industry?–not to fix the problems but to cover them up!!
Banks were encouraged to continue to lend more money to prop up what became known as “zombie” companies, chronically loss-making and insolvent firms. Legal and administrative roadblocks were thrown up to prevent competent outside managers from–domestic or foreign–from stepping in to take control of foundering enterprises and restructuring them.
This destructive behavior regarding the banks continued until Prime Minister Koizumi appointed Heizo Takenaka to address the problem in 2002. Although limited change of control of industrial firms has been allowed from time to time, the government policy of denial of the problem continues to today.
Rather than deal with the causes of flagging economic performance, Japanese government policy under the Liberal Democratic Party (LDP) has consisted mostly in enacting successive debt-funded public works stimulus packages. Much of the “stimulus” has been distributed along political lines rather than economic, however, resulting in lots of “bridges to nowhere” in the rural constituencies of powerful politicians–which are of little help in an increasingly urbanized Japanese society. The net result of this policy has been a mammoth increase in Japan’s government debt.
Three tries to reject politics-as-usual
There have been three attempts by Japanese voters to remove the entrenched legislative apparatus from office.
The first, in the early Nineties, resulted in the Socialist Party taking power. The Socialists managed to get election rules changed to limit the LDP’s ability to gerrymander election districts, but soon descended into partisan squabbling and were swept out of power.
The second was the election of LDP reformer Junichiro Koizumi in 2001. Koizumi was able to fix the banking problem and start the process of removing the Japanese Postal System, long a source of pork-barrel finance, from the control of the legislature. But the LDP resisted further reforms and Koizumi withdrew from office.
The third is ongoing, with the resounding defeat of the LDP in last year’s election its replacement in power by the Democratic Party (an offshoot of the old Socialists).
Not only has the current generation in Japan enjoyed the economic prosperity created as a gift by the sacrifices of its parents, but it has financed its own consumption by running up a huge unpaid tab which it is leaving for its children to repay. Japanese government debt, which was about 60% of GDP in 1990, has steadily risen to the point where it is now fast closing in on 200% of GDP. If we ignore Zimbabwe, this number puts Japan in a league of its own in terms of debt.
Japanese government borrowing is almost totally funded by domestic buyers. That’s bad if you’re a Japanese citizen being saddled with this obligation. That’s “good” only in the sense that there would doubtless have been a financial crisis long ago if the country needed foreign buyers.