Will the Japanese economy ever recover?
By Steven Brull
November 2001
Institutional Investor Magazine
Will the Japanese economy ever recover?
As the country slides into its fourth recession in the past ten years, two scholars have published new books that highlight the enormity of Tokyo’s challenge. Both authors agree that the proximate cause of Japan’s economic stagnation in the 1990s can be found in the rise and collapse of real estate and stock prices. These are merely symptoms, though, of a deeply flawed economic system that is profoundly resistant to change.
Edward Lincoln’s Arthritic Japan: The Slow Pace of Economic Reform argues that halfhearted structural reforms aren’t enough. Japan needs nothing less than a complete overhaul of its economic system - in particular, freer markets for goods, services and labor and greater shareholder influence. “Japan has been taking aspirin for its arthritis . . . . Something more radical - like hip replacement - would restore some mobility on a long-term basis, but so far this is not happening,” he notes.
Lincoln writes in an occasionally strident style that seems to reflect battle scars from his three-year tenure as a special economic adviser to then-U.S. ambassador to Japan Walter Mondale in the mid-1990s. He is at pains to tell American government and business leaders that, despite a “surface image of change,” Japan is not moving anywhere close to U.S.-style capitalism.
“The government will remain more intrusive in the economy. Mistrust of markets will continue. Corporate governance will not change to put shareholders in the driver’s seat, and corporations will temper their drive for efficiency with other social considerations,” Lincoln writes.
What’s the prognosis? Japan will likely muddle through with weak reforms and sluggish annual growth of less than 1 percent over the next decade. Continued low interest rates will keep Japanese capital flowing abroad.
Even then, the world’s largest creditor nation may suffer recurring fiscal problems that could disrupt global financial markets. Tokyo may become far more nationalistic and withdraw support for U.S. military bases in Japan.
Bai Gao, an associate professor in the department of sociology at Duke University and the author of Japan’s Economic Dilemma: The Institutional Origins of Prosperity and Stagnation, is less concerned with policy questions. Gao is searching for a link between the past success and recent failure of Japan’s economy. Like many other scholars, he sees the early 1970s as the critical turning point in Japan’s economic development.
Writing in a style that is academic and repetitive, Gao asserts that the 1971 collapse of the Bretton Woods system undermined Japan’s postwar economic strategy. Bretton Woods featured fixed exchange rates and rigid international capital flows.
Before 1971 Japan could, for instance, pursue a deflationary fiscal policy and an expansionary monetary policy that mobilized capital for industry. Tokyo also managed to avoid the rise of a costly welfare state by transferring social welfare burdens to the corporate sector, which, in turn, was rewarded with access to capital and protectionism.
After exchange rates became free-floating and capital flows increased, Japanese policymakers strove to preserve these economic arrangements rather than adapt to a globalizing economy. Bank of Japan intervention to maintain stable exchange rates created an oversupply of money, while expansionary fiscal policies served to channel private investments to property and stock markets. The resulting rapid growth ultimately created the bubble - and terrible fallout when it burst.
Like Lincoln, Gao believes that a return to robust economic growth depends on a fundamental reform of Japan’s economic system. How to make that happen? That critical question both authors leave unanswered. But it may well be that only an enormous economic shock could disrupt the cozy status quo and spark the profound changes needed to rejuvenate Japan’s economy.
