Did The Japanese Manufacture A Defective Stimulus Package?

[Brad Kenney]

The WSJ's Capital Journal blog has an interesting post comparing the Japanese response of the 1990s to what is -- on the surface, at least -- a similar situation to what we're facing now (property asset bubble popped, banks drowning in a sea of red ink).



On the surface, it's a pretty compelling argument. The post, written by Gerald Seib, references an argument being made by Republican Rep. Paul Ryan (among others) that says the following:

Japan in the early 1990s, like the U.S. today, saw a real-estate bubble burst, spawning a banking and credit crisis that drove the whole economy down, hard. The Japanese then tried stimulating the economy with giant doses of government spending, which didn’t pep things up — but did bring on deficits that required tax increases later, dragging out Japan’s problems for years.

To his credit, Seib, who is the WSJ's executive editor in DC, notes the similarities but focuses on key differences (most crucially the different mix of spending priorities in the bill, which he says will hit the economy faster than the Japanese responses).

Also:

The biggest one, as Rep. Ryan notes, is that Japan made a fundamental mistake in monetary policy, which the U.S. Federal Reserve decidedly isn’t repeating. At the outset of Japan’s woes, it instituted a tight monetary policy. The Fed is doing the opposite.

In addition, C. Fred Bergsten, a former Treasury official and longtime student of international economics, cites a significant difference between the makeup of stimulus spending the Obama administration is pushing and the version used in Japan. “Virtually the totality of the Japanese programs was what we call roads and bridges,” he says. “The phrase ‘roads to nowhere’ came from that.”

The U.S. stimulus package, by contrast, has a considerably more varied makeup; about half is tax cuts and spending on programs such as unemployment insurance, worker retraining and Medicaid benefits to the states, which most analysts on both sides agree largely get injected into the economy quickly. Of the remaining spending, Mr. Bergsten notes, only some is of the traditional roads-and-bridges variety.

Seib also quotes an economist who says calls the Japanese government's responses "delayed, sporadic, undersized and inadequately front-loaded."

Finally, perhaps to counter the sudden onset of politician's concern for the children (where was this concern about saddling future generations with debt over the past eight years, I wonder?), Seib includes this line at the end:

Perhaps most important in the long run, Mr. Posen says Japan’s stimulus spending, while it drove up short-term government debt, didn’t lead “to permanent increases in government programs or upward spirals in the debt level.”

This tracks pretty closely to the tradeoff I've been reading about -- if we substitute government spending for rapidly vanishing private spending it should cushion the landing for the economy, and thus allow the government to maintain its revenue-generating activities. (IMO the spike in US consumer savings is actually a positive development for the US economy, but definitely not everyone suddenly saving at once!)

As usual, The Economist adds more complexity to an already convoluted multinational, macroeconomic issue:

...America is more exposed than Japan was. When its bubble burst in 1991, Japan’s households saved 15% of their income. By 2001 saving had fallen to 5%, which helped to prop up consumer spending. America’s saving rate of close to zero leaves no such cushion....America’s booming exports have helped to support its economy, thanks to the cheap dollar. In contrast, the yen’s sharp appreciation after Japan’s bubble burst hurt exports at the same time as domestic demand was being squeezed.

The writer concludes that "it would be arrogant for those in Washington, DC, to assume that Japan’s troubles simply reflected its macroeconomic incompetence." True. However, it would also be arrogant to think that one country's situation can explain another, whether it be in automaking or economy-saving.

Unfortunately, that's precisely the kind of arrogance in which our politicians specialize.

[rbrooku]

The major problem is the matter of capital disappearing in the real estate sector. The solution is not simply short term stimulus but a recreation of a significant amount of the lost capital. No one seems to be focusing on this simple but vital point when analyzing Japan's past problem or the current U.S. problem. The major problem of Japan's response was the failure to immediately deal with the bad debt that represented the lost capital and pretty much everyone agrees that prolonged the problem in the Japanese economy for nearly 2 decades.

On the other end of "capital", Japan had a highly favorable ratio of trade balance which eventually became the engine of Japanese economic recovery through the recreation of capital in the stock of its exporting companies and THAT is how Japan, mostly but not completely, recovered from the 80's downturn. All this other stuff about "stimulus" is missing this major point.

The same is now true that in our dire fears of this problem (and well deserved fears at that), we are focusing on stimulus and ignoring the utter necessity of reinflating the lost capital in the financial markets. The only way this happens is when there is an expectation of future profits that drives up the value of some economic sector, as exporting companies did in Japan. The only industry that can possibly do this now in the U.S. is alternative energy and IF this recession ever turns around it will be because, as part of the "stimulus", the U.S. promoted alternate energy and created available capital for its expansion as well as favorable tax and regulation policy that in turn helped drive up the stock of the alternative energy sector and thus reinflated some of the capital lost in the real estate sector.

So there you have it, of what and how this "recession" will end if it ends.