Monday, April 22, 2013

James Galbraith on the Causes of Japan’s Lost Decade

I do not think I am exaggerating when I say that James Galbraith is profoundly insightful in this passage:
“... in the late 1980s, Japan entered economic crisis for reasons of its own. Deregulation of the Japanese capital asset markets set off what was, and would remain until the NASDAQ, the largest speculative bubble in human history, combining speculation in stocks and speculation in real estate to an astonishing degree. Valuations in both became wholly unhinged. At the peak of the bubble, it was notoriously suggested that the Imperial Palace in Tokyo was worth more than the entire state of California. Given the demand for Japanese assets, the yen revalued; Japanese manufacturing at the lower end, in textiles and electronics, went into depression and migrated to less expensive shores in China and South Asia. The crash came in 1988, precipitating a deep recession in domestic demand from which the Japanese economy as a whole did not begin to recover for over a decade. This dimmed the luster of the Japanese model for American observers, even as they largely overlooked the obvious point: there is evidently no development path that an unfettered, liberated, free capital asset market cannot screw up.” (Galbraith 2008: 79–80).
By “capital asset market,” Galbraith of course means “financial asset market” – that is, the banking and financial sectors and the stock, share, and secondary financial asset markets.

First, many Western economists mistook Japan’s industrial policy as some sort of cause of its 1990s lost decade, or at least assumed (falsely) that Japanese industrial policy was discredited because of it. That was profoundly mistaken: it was financial liberalisation and deregulation that were the fundamental causes of the 1990s lost decade.

Asset bubbles can be created in virtually any monetary system, but especially when the financial sector is left to do what it likes: just think of Tulip mania, the numerous bubbles of the 19th century (such as the disastrous Australian property bubble of the 1880s), and of course the late 1920s stock market bubble in the US.

Secondly, and here is my fundamental point: what Galbraith describes above in Japan is the essence of the rise and fall of neoliberalism over about the past 30 years.

Ineffectively regulated financial asset markets cause catastrophe; they always have and probably always will; and one important reason why the post-WWII golden age of capitalism (1946–1970s) had such stability was the proper regulation of the finance sector. When 1980s and 1990s liberalisation of the financial sector occurred in the West, disaster emerged again, just as it did before the 1930s.

It was also Thatcher’s UK that was a trailblazer in this respect: Thatcher’s financial deregulation – an important element of which was the Big Bang (1986) – contributed to the so-called Lawson boom (1986–1988), at the centre of which was a debt-financed property bubble. When this collapsed in the late 1980s, a debt deflation ensued in the UK in the early 1990s recession (Stewart 1993: 56–57, 101–102).

Japan and Thatcher’s UK were harbingers of the tremendous disasters that occurred later in Clinton’s bubble years and the US real estate bubble in 2000s.


Galbraith, J. K. 2008. The Predator State: How Conservatives Abandoned the Free Market and Why Liberals Should Too. Free Press, New York.

Stewart, Michael. 1993. Keynes in the 1990s: A Return to Economic Sanity. Penguin, Harmondsworth.

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