The current crisis, to my poorly educated eye, resembles the Japanese asset bubble of the late 1980s. Vast oceans of capital sloshing about, desparately looking for something, anything, to invest in. A massive and unsustainable real estate bubble. A massive crash.
Now the nasty part of that potential parallel is that the Japanese spent the 90s recovering (usually unsuccessfully) with ever larger bailouts, interest rate cuts and Keynsian pump-priming fiscal policy.
There’s an observation amongst geeks that the Japanese live in the future — between 3 and 8 years ahead of the nominal technology superpower, the USA. My question today is: have the Japanese already lived through the same sort of crisis as Wall Street is in the middle of?
Some people think maybe in this case the Swedes are twice as far into the future as the Japanese.
My uneducated eyes wondered exactly the same thing — although there are big demographic differences between Japan and the US.
Start with the obvious, namely, all historical analogies are bogus.
And with that caveat, lets continue with the analogy and compare and contrast.
One similarity is that the credit spigot was opened mainly for political reasons. In Japan, it followed the ending of the beggar-thy-neighbour policies in the mid 1980s. The policies (mainly the repressed exchange rate) were successful in the country’s development, but weren’t going to be tolerated by the US once the country was wealthy. Unfortunately the political interest groups needed to be kept happy, and monetary policy was used.
In the US, it was Greenspan trying to keep his position, the main determining factor in all his monetary policy.
There are some differences though, particularly in the nature of the recovery.
1) The US has a (small) welfare state and relies more on income taxes.
The single biggest flaw of fiscal stimulus, far more than the financial crowding out hyopthesis, or the absurdly unconclusive St Louis equation, is its reliance on someone making the decision. Usually politicians, whom are obviously reliant on interest groups etc. and make delayed decisions, which means a legislative stimulus will be the wrong kind in the wrong place and the wrong time.
In Japan, this meant spending in construction, an industry on which the LDP relies allowing the funds to go only to those who would most likely spend it abroad, or not spend it at all, and invest in the same systems that were no longer viable. The same people thinking the same ideas that had caused the problems in the first place. The zaibatsu are too heirachial for new ideas, and funds wouldn’t go outside them where there were.
In the US, someone loses a job, the government expends more on welfare (and pays less tax). The person spends it (on stuff they want) and anyone who can provide that stuff can access the money. The stimulous is instantaneous, and is spent where the market wants it to spend.
2) The US finance system is less corporatist.
Small business can get loans in the US. Despite all the 0% rates Japan had in the 1990s and early 2000s, only zaibatsu could access the loans. This was institutional, not a credit crunch. So the structure couldn’t change with new ideas through the market.
Deposit holders do get 0% rates though. And bank fees, especially high on the surprisingly rare ATMs.
And there is little crime. And deflation means you get a positive real interest rate anyway.
So a rational Japanese would keep money under the bed (well, futons are useless for that, but the practice or keeping cash in the house instead of the bank is common). Loanable funds (if you like that hypothesis) are not even in the system.
3) American politics is relevant to Americans.
Japanese politics makes NSW politics look brilliant. The factions of the LDP are associated solely with the industry with whom they are in cahoots without even pretending ideological divisions. Additionally, the opposition, well, doesn’t exist. The miniscule voting turn out, the fact government never changes and the apathy of the populace means power is achived solely within party structure, and that means solely within appealing to vested interests. Koizumi expended almost all his internal political capital simply not looking like that, and there was none left over for pursuing any actual reform at all.
Whereas we can see right now that an engaged US public is watching politicians debating and debating themselves over the course of action and whether or not serving the vested interests is good or not. Power comes from the constituents, not the vested interests. If elections are able to harness the wisdom of the crowd, so be it as well. American politics may be flawed, but it is not Japanese politics.
4) The US lacks a lifetime employment model.
This is not formal regulation in Japan, merely convention. This has good points and bad for the US. The good is that firms can adjust and lose staff more easily. More importantly, the staff can get jobs again after they’ve lost them, instead of setting up a tent in the park and whiling away the rest of their lives.
The downside of course is that is can exacerbate downturns, since jobs lost means less spending which means more jobs lost. If this is true, it also means accelerated upturns, so maybe this cancelled itself out.
5) The US will likely not experience deflation.
Low nominal interest rates are no good when deflation lifts the real rate.
Deflation is extra nasty when the huge debts you have are staying constant in nominal terms whilst your nominal pay packet and revenues are shrinking. Your debt is getting bigger in real terms. After repayments, you have less to spend.
Less spending isn’t much fun for the people you would have been spending money on, but it also helps drop the price level.
Which makes your debt bigger.
Bugger.
Petrol prices are good for something at least.
So, the US is more flexible, for institutional if not legislative reasons, with better politics. This both lets non government adjustments take place a bit easier, but also allows the Keynesian elements to work better since they rely far less on the discretion of a few decision makers.
And deflation is the killer.
The US is in for a rough time, but I doubt its as bad as Japan’s.
Jacques:
All these crisis are the result of monetary disequilibrium and freight trains or “Black Swans” coming your way that you never see.
Japan is the case study of how not to handle a financial/economic crisis
The Japanese spent ages avoiding the issue and things simply went from bad to worse and then bad again.
From recollection only and no real order:
They had the stock market crash, followed by the real estate crisis. followed by the banking problem. Unfortunately debt was anchoring all these interlocking stock positions between firms as they all seemed to own a good chuck of each others stock.
In all that you had the Governor of the Bank of Japan actually raising rates while the real economy was heading south. Governor Mieno was his name and he alone possibly caused another coupla trillion dollars worth of economic losses.
There were a series of support packages, such as those to construction firms contracting out to build all these bridges and roads to nowhere that finally ended up totaling around 250% of GDP.
Idiotically they raised a sales tax 2/3rds of the way through the decade (90′s) that slowed down consumer spending even more. This is when the Diet panicked and saw the size of the deficit they had created through the spending programs.
They prevented most large firms from shedding staff and or lowering wages.
They basically forced the banks delay provisions turning them into the walking dead. At one stage we could not deal with one Japanese bank becasue of credit risk concerns.
When the Yen was weak they intervened and actually caused a run into the yen further exacerbating a deflationary tendency. As a large holder of overseas assets any financial tension at home caused the Yen to appreciate as money was brought back.
Finally Bob Rubin and Greenspan went to see them and had some US Treasury officials seconded over there to help them figure things out in terms of the mess they had created..
They bit the bullet, cleaned up the banking mess, introduced quantitative easing and ZIRP (zero interest policy).
They basically stopped the rot and since then they have been limping around like a injured war veteran ever since.
The really big difference between the US and Japan is the external balance which for Japan meant that they could self finance all their blundering errors and didn’t have to look to foreign money whereas the US doesn’t have that luxury.
My guess is that the US is on the right path in terms of trying to clean up the bank balance sheets as quickly as possible because that’s where the cancer spreads into the real economy.
Seriously, Japan has to be the economic case study of how not to handle a financial crisis.