Charles Rowley's Blog

“In fact, there’s some concern that inflation will dip below zero – into deflation. The Fed, thank goodness, is determined to stop that.  We don’t want to be the next Japan now, do we?” Alan S. Blinder, ‘In Defense of Ben Bernanke’, The Wall Street Journal November 15, 2010

“Nowadays, all we hear are warnings not to repeat Japan’s mistakes that resulted in a ‘lost decade’ of economic growth.  Japan’s cardinal sins, we’re told, were skimping on economic ‘stimulus’ and permitting paralyzing ‘deflation’ (falling prices). People postponed buying because they expected prices to go lower.  That’s the conventional wisdom – and it’s wrong.” Robert J. Samuelson, ‘Avoiding Japan’s fate’, The Washington Post, November 15, 2010

Now it is rare occasion when The Washington Post engages correctly while The Wall Street Journal intervenes incorrectly on a significant issue in economic science. But this is one such. The underlying reason for this reversal of roles is the co-existence of two ‘blind spots’ wherein the Editors of the Post retain the services of Samuelson despite his pro-capitalist stance, and whereby the Editors of the Journal are repeatedly seduced by the blatant progressive socialism of Blinder.

As Robert Samuelson points out in today’s column, Japan’s economic eclipse as the ‘wonder economy’ of the 1980s demonstrates the futility of economic stimulus and the sclerosis of pursuing state rather than laissez-faire capitalism in the wake of a serious financial crisis and economic contraction.

Japan’s economic difficulties originated in huge asset bubbles.  Between 1985 and 1989, Japan’s stock market tripled in value while land values in major cities tripled by 1991. The crash was brutal.  By year-end 1992, stocks had dropped by 57 percent from 1989.  Land prices began to fall in 1992 and have followed a monotonic decline. They are now at early 1980s levels.  Banks – having lent on the collateral of inflated land values – confronted major liquidity problems, many of them becoming insolvent.  The economy sputtered, growing approximately at 1.5 percent per annum throughout the 1990s, down from 4.4 percent in the roaring ’80s.

The Japanese government adopted unambiguously  the policies of John Maynard Keynes.  It increased government spending and cut taxes, allowing budget deficits to balloon.  Gross government debt increased from 63 percent of GDP in 1991 to 101 percent of GDP in 1997. It now stands at 200 percent of GDP.  The Bank of Japan cut interest rates significantly, reaching zero in 1999, a position, with some slight interruptions, that presently endures.

As Samuelson explains, deflation does not explain the persistent economic stagnation. Consumer prices in Japan have declined  in nine out of the past 20 years.  However, the average annual decline was six-tenths of one percent.  Households do not rationally postpone consumption in anticipation of such minute declines in consumer prices. Furthermore, if the Japanese were delaying consumption, then the household saving rate would have risen. Instead, it declined from 15.1 percent of disposable income in 1991 to 2.3 percent in 2008.

As Samuelson correctly surmises, there are two principal causes of Japan’s lackluster economic performance. One is the ‘dual economy’ comprising a highly efficient export sector offset by a regulated and protected domestic sector. Until the mid- 1980s, 20 percent of the economy was carrying the other 80 percent. The appreciation of the yen in the mid-1980s doomed this economic strategy.  Since then, successive Japanese governments have relied futilely on Keynesian economics to pull the economy out of stagnation, while systematically ‘reinforcing ‘ cartels and regulation in the domestic economy.

The second cause is an aging and declining population, with inward migration suppressed for purposes of racial purity. The anaemic economy has discouraged family formation. For men, the age of first marriage is now 35, up from 27 in 1990.  Stagnating wages have also reduced family size, with fertility rates declining from an already low 1.57  in 1989 to a current low of 1,3.  At this rate, the Japanese population is set on a course of long-term significant decline.

Robert Samuelson draws impeccably accurate conclusions from this dismal tale:

“Economic success ultimately depends on private firms.  The American economy is more resilient and flexible than Japan’s.  But that’s a low standard.  Neither the White House nor Congress seems to understand that growing regulatory burdens and policy uncertainties undermine business confidence and the willingness to expand.  Unless that changes, our mediocre recovery may mimic Japan’s.” ibid.