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Abu Dhabi, UAETuesday 19 June 2018

Japan's economy a tricky one to understand

Japan’s Prime Minister Shinzo Abe is in many ways analogous to the late US President Ronald Reagan.

Japan's Prime Minister Shinzo Abe. Kim Kyung-Hoon/Reuters
Japan's Prime Minister Shinzo Abe. Kim Kyung-Hoon/Reuters

Explaining Japan’s economy to foreign audiences is hard.

One big reason for this is that explaining something as large and complex as a $5 trillion economy is an inherently difficult task - there are a lot of conflicting trends, regional differences and other wrinkles. A second reason is that Japan tends to be somewhat out of sync with the US and Europe - when the US was struggling in the early 1980s, Japan was powering ahead, and when the US recovered in the 1990s, Japan stagnated. A third reason is that the economic institutions that govern Japan - the centralised but weak government; the huge, old, diversified corporations; the powerful but conflicted bureaucracy - are just very different from those that prevail in the US or European Union.

But there’s an economic analogy that works pretty well. For Japan, the era beginning in 2013 is similar to the US in the 1980s. And Japan’s Prime Minister Shinzo Abe is in many ways analogous to the late US President Ronald Reagan.

The most obvious analogy is the recovery from a long period of stagnation. In Japan during the 1990s, as in the US during the 1970s, the economy slowed dramatically after a decade of rapid growth. Japan briefly recovered in the mid-2000s, but backslid after the 2008 global financial crisis and a 2011 earthquake and nuclear accident that laid waste to a region of the country.

So far, Japan’s economic performance under Mr Abe isn’t as good as the US' under Reagan, when real per capita gross domestic product growth averaged 2.65 per cent a year. But Japan faces demographic headwinds that Reagan didn’t have - a rapidly ageing population, an increasing percentage of retirees and a shrinking domestic market. Even so, Japan under Mr Abe has done better than most of its G-7 peers, edged out only by the US and UK.

Like Reagan, Mr Abe was a conservative leader elected at a moment of malaise to revive the economy. His willingness to stand up to China is reminiscent of Reagan’s tough rhetoric toward the Soviet Union, and his strengthening of the country’s military was Reaganesque as well. This muscular attitude sparked outrage in China and South Korea, and horror from Japan’s left, but it probably reinforced Mr Abe’s image as a strong leader, allowing him to push reforms through Japan’s notoriously baulky government apparatus.

Mr Abe’s reforms, like Reagan’s, are best described as neoliberal. Where Reagan cut taxes and fought unions, Mr Abe has focused on deregulation. Like Reagan, Mr Abe is a free trader who has worked to increase immigration.

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But the not-so-secret weapon in both Reagan’s and Mr Abe’s economic arsenals has been monetary policy. In the 1980s, the US had suffered from a long period of high inflation; in the 1990s and 2000s, Japan had endured punishing deflation. In both cases, it was a dynamic new central banker who came to the rescue. Paul Volcker, though a Jimmy Carter appointee, smashed inflation with high interest rates under Reagan. In Japan, Mr Abe appointed Haruhiko Kuroda to head the Bank of Japan. Mr Kuroda enacted a dramatic programme of quantitative easing that finally ended the country’s long spell of deflation - at least, for now.

In both cases, the return to low, positive inflation probably gave the economy a boost. In Japan’s case, it’s too early to conclude that deflation is gone for good - there have been false dawns before, such as in 1997, and inflation still hasn’t hit the official target of 2 per cent for any sustained period of time. But there’s reason for hope.

The results of Japan’s neoliberal reforms and economic recovery have been good overall. Business investment, in particular, has been strong:

But there have also been downsides. As with the US in the 1980s, the economy has grown, but wages have so far failed to rise strongly.

Corporate profits have rebounded, but a disproportionate share of the gain is flowing to the top of the income distribution. As under Reagan, economic liberalisation may end up exacerbating inequality.

There has been at least one unambiguously good result of Mr Abe’s reforms - the entry of more women into Japan’s formal workforce:

This parallels a similar social shift in the US under Reagan:

In the American case, the transition was probably an incidental consequence of economic liberalisation, while in Japan it was partly the result of specific policies - Mr Abe’s “womenomics” programme. In both cases, however, it was probably a response to wage stagnation. Even as individual incomes stay flat, adding a second income will make a household considerably wealthier.

But the parallels may end there, because Mr Abe’s Japan faces challenges that Reagan’s America never did.

Unlike the tottering Soviet Union, Japan’s rival China is on firm economic footing. Whereas the US experienced population growth during the 1990s and 2000s thanks to immigration and slightly higher birth rates, Japan will almost certainly continue to lose population. And in the US, the 1980s were already giving rise to computerisation and the internet, which would ultimately power high productivity growth in the 1990s and early 2000s; Japan, in contrast, doesn’t obviously have any such breakthrough technology in the pipeline. Meanwhile, a land-sale scandal may end up damaging Mr Abe more than Reagan was hurt by the Iran-Contra affair.

So while Reagan’s term in office was just the beginning of a long period of strength and prosperity for the US, Japan will have to work much harder to sustain the momentum Mr Abe has given it. Abe-era initiatives such as activist monetary policy, promotion of gender equality, skilled immigration and the solidifying of regional alliances should continue. In addition, Japan must improve its university and defence research programmes, in an effort to produce innovative technologies.

Even with optimal policy, the road ahead will be a more difficult one than that travelled by the US.

Bloomberg