Saturday, November 22, 2014

Robert Murphy on Japan

Robert Murphy and Tom Woods discuss Japan in the video below.



At the beginning from 1.17–1.37 minutes of the video Woods makes an extraordinary claim:
“[sc Japan has been] … engaged in Keynesian policy for [sc. a] quarter century now, and, just recently, figures came out for, I guess, GDP growth there, and they were expecting, well, a couple of percentage points positive, and it turns out they keep sinking ever lower.”
This statement (admittedly poorly worded and probably confused) implies that Japanese real GDP has been contracting or falling for 25 years. That is pure nonsense.

Look at the graph below of real Japanese GDP from 1970 to 2011.


Despite its “lost decade,” real GDP continued a long-run rise even in the 1990s (despite a serious austerity-induced recession from 1997 to 1998), and has continued a longer long-run upwards trend for the last 24 years, although the global recession of 2008 to 2009 really hit Japan hard because of its reliance on export-led growth.

But it is nonsense to say that Japan has been either “mired” in recession or experienced a long run contraction in GDP growth since 1991, or that Japanese GDP has been “sinking ever lower” in that time. Even the recent GDP figures for the second and third quarters of 2014 aren’t that bad, speaking comparatively: they show a mild recession, but nothing like the bad recession of 2008–2009. And it seems quite likely that the new recession in 2014 has been caused by Japanese contractionary fiscal policy in the form of an ill-advised sales tax increase, a policy of fiscal contraction similar to the equally disastrous austerity of 1997 (more on that below).

Robert Murphy also makes this absurd error and asserts that Japan has “never recovered” from the collapse of its bubble and has been “mired in this rut” – presumably meaning suffering recession or stagnation – for over two decades. Murphy is just ignorant.

Of course, nobody denies that Japan did have serious economic problems in the 1990s and early 2000s in what has been dubbed the “lost decade.” But it recovered from this “lost decade” around 2003–2006. Admittedly, there is also some dispute about when the lost decade ended. Some argue it ended around 2003, while others that it ended about 2006, when positive credit growth returned and deleveraging in Japan’s private sector ended (especially by corporations). That was clearly a sign of much healthier economy and long-run recovery, and it is clearly absurd to claim, as Austrian economists like Murphy do, that Japan has been “never recovered” from its 1990s crisis. Of course, Japan also has special problems because it is highly reliant on export-led growth and has a falling population. But these are not directly related to the issue of the asset bubble collapse and crisis of the 1990s.

If we wish to properly understand the “lost decade,” let us look at the history.

In the 1980s, Japan engaged in ill-conceived financial deregulation (Fukao 2003: 134–135), which was one major cause of the asset bubble in these years (although poorly designed tax policies and monetary policy were clearly involved too). The collapse of the asset bubble and the balance sheet recession (a form of debt deflationary crisis) caused the “lost decade.”

Japan’s lost decade involved lower real GDP growth arising from
(1) property price deflation after the collapse of the enormous asset bubble of the 1980s and stock market deflation;

(2) a debt deflation from (1) and from high levels of private debt, and continuing problems as the private sector was overloaded with debt and was weighed down by deleveraging, and

(3) banking problems in which banks were saddled with bad assets and non-performing loans (a crisis that became acute from late 1997).
But the “lost decade” of the 1990s was really an era of low growth, not continuous negative growth.

Many myths have arisen about the lost decade, and one of them is that Keynesianism somehow “failed” to work in this era, as repeated by Murphy and Woods. That is nonsense. If anything, Keynesianism saved Japan from a terrible depression. In fact, when fiscal stimulus was abandoned for austerity in 1997, the economy plunged into a recession.

Japan had mild to moderate Keynesian stimulus packages from about 1993 to 1997 (although the actual fiscal impact of some of the early ones is grossly exaggerated [Posen 1998: 41]), but the result was mild to moderate growth from 1993–1995. In 1996, expansionary policy produced an impressive 3.49% growth rate – much higher than anyone predicted (Posen 1998: 41). (As an aside, I highly recommend Adam S. Posen’s Restoring Japan’s Economic Growth [Washington, D.C. 1998], p. 41f. for analysis of the extent of fiscal stimulus in the 1990s.)

But then from 1997 Prime Minister Ryutaro Hashimoto imposed sharp fiscal contraction and a recession resulted.

A major consequence of the recession induced by fiscal contraction was that the Japanese budget deficit soared by 68% as tax revenue collapsed. This must be counted as one fundamental reason why Japanese public debt soared so badly. When fiscal expansion was applied again on a large enough scale in 1998 the recession ended and growth resumed.

All this is well known in the Japanese press:
“Japan’s first experiment in austerity policies began under Prime Minister Ryutaro Hashimoto (1996–98). Severe spending cuts were seen as needed to rein in budget deficits caused by previous efforts to recover from the 1991 Bubble collapse. Recession followed quickly. Tax revenues collapsed. The national debt increased.

Under Prime Ministers Keizo Obuchi (1998–2000) and then Yoshiro Mori (2000–2001), Japan returned to fiscal expansion policies and the economy recovered rapidly, with the Nikkei Dow share index reaching almost 20,000. But with tax revenues still only in the recovery stage the deficit hawks were able to swoop in once again under Prime Minister Junichiro Koizumi (2001-2006). Austerity in the name of ‘structural reform’ became the order of the day. The Nikkei Dow promptly collapsed to the 7,000 level, tax revenues fell again and the national debt increased by ¥200 trillion in just five years despite the boost to the economy from expanded exports to China and the United States.”
Gregory Clark, “Economics of Austerity Don’t Add up,” The Japan Times Online, August 15, 2012.
Japan in the 1990s was somewhat like America in the 1930s. However, Japan differed from the US in that it averted an actual depression, though as in the US its fiscal policy was not applied properly and was then reversed in 1997 in a disastrous error. In the US, Roosevelt reversed his moderate fiscal expansion in 1937, and the US relapsed into depression in 1938. Both 1938 (in the US) and 1998 (in Japan) serve as warnings of the dangers of austerity in a weak economy.

Above all, there was also flawed belief that monetary policy in the form of an experiment with quantitative easing would bring Japan out of deflation, when what was needed was increased fiscal policy.

It is a pity that the lessons of the Japan’s lost decade is forgotten.

On a purely practical note, what should Japan do? First, it should reject contractionary fiscal policy, including tax hikes. A first practical policy is that the Bank of Japan should engage in an aggressive bond-buying program to reduce its government-debt-to-GDP ratio. Further fiscal stimulus should be conducted in a way that stabilises and ideally reduces the government-debt-to-GDP ratio. Banking and financial regulation should be used to stop any further disastrous asset bubbles. Japan’s economy is heavily dependent on export-led growth, and so it should carefully manage its exchange rate to ensure demand for its exports is maintained. In the long-run, Japan needs to encourage more consumption and increase productivity growth. Finally, the 21st century will probably see a revolution as increasingly sophisticated machines such as computers with AI and robots are used in production. Japan is already a high-tech economy and will probably be at the forefront of this revolution. Japan is thus in a good position to increase its productivity growth and address the problems from its aging and falling population. All in all, Japan has reasons for optimism, despite its problems.

Further Reading
“Japanese Real per capita GDP and Population Decline,” September 16, 2014.

“James Galbraith on the Causes of Japan’s Lost Decade,” April 22, 2013.

“Japanese Real GDP Growth, 1925–2001,” January 22, 2013.

“Average Annual GDP in Japan 1980–2009,” May 22, 2012.

“Richard Koo on Europe, the US, and Japan,” February 8, 2012.

“Richard Koo on the Current State of the Japanese Economy,” September 3, 2011.

“Richard Koo on the Lessons from Japan’s Lost Decade,” July 4, 2011.

External Links
Over the years Bill Mitchell has written some excellent MMT analysis of Japan:

Bill Mitchell, “Japan thinks it is Greece but cannot remember 1997,” Billy Blog, August 13, 2012.

Bill Mitchell, “Japan returns to 1997 – Idiocy rules!,” Billy Blog, November 18, 2014.

Bill Mitchell, “Japan demonstrates the Real Limits on Government Spending,” Billy Blog, November 4, 2014.

Bill Mitchell, “Japan’s growth slows under tax hikes but the OECD want more,” Billy Blog, September 16, 2014.

BIBLIOGRAPHY
Clark, Gregory, 2012. “Economics of Austerity Don’t Add up,” The Japan Times Online, August 15.

Fukao, M. 2003. “Japanese Financial Deregulation and Market Discipline,” in Edgardo Demaestri, Pietro Masci (eds.), Financial Crises in Japan and Latin America. Inter-American Development Bank, Washington, D.C. 129–162.

Posen, Adam S. 1998. Restoring Japan’s Economic Growth. Institute for International Economics, Washington, D.C.

Izabella Kaminska on Private versus Public Money

An interesting post on FT Alphaville on the history of the Bank of England in the context of private versus public money (subscription required):
Izabella Kaminska, “Private Money vs Totally-Public Money, plus Some History,” FT Alphaville, November 21, 2014.
There is also a link to my post on myth of the Scottish free banking era, and the way in which that system become oligopolistic and was dependent on the Bank of England.