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| World Marketplace |
Remade in Japan
Richard Katz
02/01/2005
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In March 2003, confidence in the Japanese economy reached such a low ebb that the prices of Japanese stocks and bonds behaved as if a calamitous crash, complete with bank runs, was just around the corner. But the sky did not fall, and investors took the reprieve as a signal to turn bullish. Some declared that after 15 years of stifling economic malaise, the Japanese economy had finally turned the corner.
That exuberance fueled a 60 percent rise in Japanese stock prices over the following year, making the Tokyo Stock Exchange’s performance one of the best of any major bourse. However, while other macroeconomic indicators were also encouraging, the fine print cast doubt on the long-term viability of Japan’s renaissance. Yes, industrial production soared from its 2001 nadir, but only to a level slightly higher than the country achieved in 1991. GDP began growing at a brisk pace, registering 2.5 percent in 2003 and perhaps as much as 4.5 percent in 2004. However, the Organization for Economic Cooperation and Development forecast that Japan’s growth rate would decline to a dismal 0.9 percent average from 2006 to 2009.
Many find the successive waves of exuberance and despair that characterize the Japanese economy perplexing. The simplest explanation for these gyrations is that Japan is transitioning from one economic structure to another. Such a fundamental change, which will take several more years to complete, is inherently bumpy, and expectations will shift more than the underlying realities. Even so, the rebirth of an economy that was, only a few years ago, the envy of the world will ultimately come to pass. Japan’s numerous inefficient industries, long sheltered from competition, will eventually catch up to world productivity benchmarks. When they do, sustained growth of 3 to 4 percent will be within the country’s reach.
The old Japanese economic system was indeed a miracle. Created out of the wreckage of military defeat, this model took a country with more farmers than factory workers and a 1950 per capita GDP only slightly higher than that of Pakistan today, and transformed it into an industrial superpower. True, it was a top-heavy system with too much statist direction of industry and finance and too little competition, both domestically and from imports. Nonetheless, for two decades, the benefits of Japan’s industrial policy of subsidies and market protection outweighed its costs. Once the Japanese economy matured in the mid-1970s, however, the country needed to give the market more sway. Its failure to do so produced a deformed dual economy—a dysfunctional hybrid of superstrong exporting industries and superweak domestic sectors.
In 1990, the system came crashing down with the collapse of the stock market. An economy that had grown 4 percent a year from 1975 through 1990 proceeded to labor along at 1.5 percent. Of course, any economy running far below capacity can temporarily grow above its long-term potential if it gets a temporary spurt in demand. Japan proved this in 1995–1996 and in 1999–2000; it is doing so again today. However, only a productivity revolution borne of structural reform can bring about 3 to 4 percent growth on a sustained basis.
| Japan’s long financial crisis and deflation are the financial mirrors of structural defects. |
Japan’s long financial crisis and deflation are the financial mirrors of these structural defects. Japanese banks, sheltered from competition and eager to support the economic facade, increasingly lent to the dark side of the dual economy. The banks propped up marginal and moribund firms—nicknamed “zombies”—in part to provide a form of disguised unemployment insurance. At their peak, nonperforming loans to the zombies totaled 20 percent of GDP, according to some private estimates. Most Japanese policymakers resisted making any substantive changes to this system because, in many cases, the very things that impeded growth also served as important political and social pillars.
Japan remains a one-party democracy—the only one remaining in the advanced industrial world. The ruling Liberal-Democratic Party (and its precursor organizations) has ruled Japan for almost 60 years with only two brief one-year interruptions. One-party states are inherently more rigid. Today, the LDP is divided and weak. While some parts of its base would benefit from reform, others would be hurt. These factors make political decisiveness a rare commodity.
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