Japan has become the boogeyman of U.S. monetary policymakers. A country which in the mid-1980s was on the march to conquer global consumer markets with its manufactured products, and even to supplant the much more populous United States as the world’s largest economy, unexpectedly saw its economic growth sputter. The Tokyo stock market slumped in 1989, and the bubble in the real estate market burst in the early 1990s. Since then, Japan has been in a painful stagnation, with economic growth averaging less than 1 percent over the past two decades.
The specter of a Japan-like stagnation is now haunting the United States. For Ben Bernanke, the Chairman of the Federal Reserve, the situation has an aspect of Greek tragedy. In the late 1990s, while still an economics professor at Princeton, he thundered against the timidity of the Japanese central bank, which failed to implement massive infusions of liquidity to counteract deflationary pressures and thus to jolt the Japanese economy back to economic growth.
An Opportunity to Act
Now, Dr. Bernanke has been hoisted on his own rhetoric. He finds himself at the helm of the U.S. central bank at a time when the United States faces a similar set of problems. A sudden bursting of a number of bubbles in the U.S. economy has raised the bleak prospect of years of sluggish economic growth. He can now try out his own prescriptions, and his unconventional quantitative easing methods have already added some $2 trillion of liquidity to the U.S. banking system. But banks remain reluctant to lend to businesses and consumers, and the unemployment rate is hovering just below 10 percent. In October, Bernanke admitted that his Fed, like the Bank of Japan in the 1990s, had not done enough. The Fed has hinted that it will resume the practice of buying government bonds from financial institutions, and some analysts believe that the Fed balance sheet could expand by another $1 trillion.
At the same time, Keynesian economists such as Nobel Laureates Joseph Stiglitz and Paul Krugman have complained that the Obama Administration’s fiscal stimulus was woefully insufficient. Even as the Federal budget deficit surpassed $1 trillion for the second year in a row, reaching $1.3 trillion in fiscal 2010, they still claim that more government spending — as much as $1 trillion — is required. They too point to Japan as a cautionary tale.
Krugman recently wrote, for example, that after the Japanese bubbles burst, companies and consumers reduced their spending in order to pay back debts they had incurred in the real estate debacle. With aggregate demand thus constrained, his view is that the Japanese government should have boosted public spending to jump-start growth.
However, with all due respect to such an authoritative lineup of economists, it seems that the situation in Japan was very different from what we’re seeing in the United States. First of all, Japan had a very high savings rate and a low debt-to-GDP ratio when it embarked on fiscal stimulus measures. U.S. consumers, on the contrary, were dissaving already in the mid-2000s, and both Federal deficits and the debt burden were onerous before the economic downturn struck. Japan was, moreover, a major exporter, with a considerable current account surplus. The United States, on the contrary, is consuming substantially more than it produces, and while Japan is a major supplier of investment capital to the rest of the world, the United States is the world’s largest debtor.
Finally, Japan has never had a high unemployment rate, whereas the U.S. labor market rapidly shed jobs, losing as many as 700,000 jobs a month in late 2008, and the jobless rate seems to be stuck at a very high level for the foreseeable future.
Bernanke’s criticism notwithstanding, the government in Tokyo and the Japanese central bank actually tried a variety of the same stimulus measures which the United States is currently embarking upon. Over the past 20 years, Japanese interest rates have been mostly near zero, and the government has been spending heavily on a variety of fiscal stimulus packages, building and rebuilding highways, bridges and railroads. Its debt burden is now the heaviest in the world relative to the size of its economy, approaching 200 percent of GDP.
But Japanese consumers remain reluctant to spend, even though their bank accounts are bulging with cash. Car sales, for example, have been depressed, dropping last year to levels not seen in several decades. Even when they bite the bullet and buy a car, it is likely to be a cheaper mini-vehicle.
U.S. policy-makers should take a note of this. Japanese consumers are cautious because they worry about their future. They trust their government — and they are still the main investors in the massive Japanese government bond market — but only as the best of a bad lot, because they distrust other governments even more. The Japanese population is aging, life expectancy in Japan is high and the population is not at all convinced that the government will be able to pay their pensions. A debt burden that is twice the size of the economy thus prompts Japanese households to save more.
Since the advent of the 2008 financial crisis, U.S. consumers have also been saving up, instead of spending. Initially, they wanted to reduce their debts. More recently, the fear of unemployment has become a major factor in forcing consumers to postpone purchases. But Americans are also becoming worried that the U.S. government will not be able to sustain such profligate spending levels and will have to raid the Social Security fund while also raising taxes.
Similarly, some economists have already expressed concern that corporations are hoarding some $2 trillion of cash and not hiring new workers because they realize that the government can’t run massive deficits without raising corporate taxes some time down the road.
A Threat to the Business Model
Japan does present a cautionary tale to U.S. policy-makers, but not necessarily in a way that calls for more government spending or looser fiscal policy. Rather, the other way around.
Actually, both Japan and the United States are suffering from structural problems. In particular, by the early 1990s Japan’s successful economic model sprung a leak. In the 1980s, Japanese manufacturers were able to gain market share in export markets thanks to their extraordinary flexibility. Although they were never able to innovate successfully, they could buy U.S. patents that were gathering dust and produce cheap, innovative goods quickly and efficiently. But then the United States developed an entrepreneurial pipeline of its own, when new ideas and inventions were quickly and efficiently implemented at home, albeit by using cheap labor in China or other countries on the Pacific Rim. Japan has not been able to fully recover from this blow, and the hottest consumer electronics companies and products over the past decade and a half have come mostly from the United States.
But the entrepreneurial culture in the United States, which took care of Japanese competition while spearheading the information technology revolution and creating full employment in the domestic labor market in the second half of the 1990s, dimmed after the bursting of the Internet bubble in 2000. While shares of many dot.com companies were insanely overvalued, it was an environment that bred innovation, new technologies and successful new ideas. The bubble of the 2000s, on the other hand, was a dead end, with households basically using their appreciating homes as their ATM machines and producing little except for financial bubbles.
In the current crisis, the Dow Jones industrial average fell only briefly, and by mid-October 2010 it was flirting with the 11,000 mark once more. This is very different from Japan, where the bubble pushed the Nikkei 225 average toward 40,000. But the decline in the Nikkei average to about one fourth of that record level today is better compared to the rise and fall of the Nasdaq Composite index in the United States. The index hit 5,000 in 2000, but trades at barely one half that level currently.
Clearly, in both Japan and in the United States, it has been the economic model that began to fall apart. While in Japan the factors that made the Japanese economy so successful in the early post-World War II decades probably can’t be recaptured, in the United States the entrepreneurial spirit of the 1990s is still alive under the surface and it should be revived to help the U.S. economy overcome its current stagnation.