What's The Weakest Link In The World Economy? JapanRudi Dornbusch
The Asian miracle is gone--and Japan may be feeling it worst of all. The country is on the ropes, pummeled by a collapse of asset prices and loss of confidence; by misgovernance, corruption, and political stalemate. Instead of solving the Asian crisis, Japan is increasingly the central problem for the entire world economy. Unless Japan grows, global prosperity and free trade will suffer. The situation in Japan has all the overtones of the U.S. in 1929: As the economy sinks, bureaucrats do little and claim that everything will work out in time.
Tokyo is deaf to advice from U.S. policymakers, who have been right all along. Even the International Monetary Fund, with characteristic convolution, has expressed skepticism. As an IMF deputy managing director recently said in Tokyo: "It will be important that no further withdrawal of fiscal stimulus take place in Japan, although further efforts are needed later on to make progress on fiscal consolidation." Let's be a bit more forceful here. Earth to Japan: Get a grip! Get moving and do something big, because the economy is falling out of control.
ALL GONE. A decade ago, Japan was king of the world economy. The country was about to own all of America. A city block in Tokyo was worth more than all of California. Technology was tops. Quality was unrivaled. Public finance was exemplary. And stock market valuation reflected an unlimited future of prosperity. None of that is left today. The U.S. has replaced Japan as the economic model, with strong growth, full employment, a balanced budget, and record asset prices.
Japan can't manage to take off into sustained growth. The budget deficit is huge and getting worse. Falling asset prices threaten bankruptcy throughout the financial system, from banks to insurance companies. The only growth is from an overly depreciated yen, as Japanese goods flood the U.S. market, hurting the rest of Asia. Undoubtedly, this is cheerful news to Representative Richard A. Gephardt (D-Mo.). There is nothing better for a protectionist would-be Presidential candidate than the deluge of imports starting to arrive.
Japan must urgently do three things. It must clean up its banks completely so that they can start lending rather than hiding their losses. The government's new package does not even begin to solve the problems at the banks, which hold bad loans adding up to nearly 15% of gross domestic product. The country must also introduce a major tax cut--amounting to at least 2% of GDP--to spur consumer spending. The $15 billion in tax cuts proposed by Prime Minister Ryutaru Hashimoto is much too small to boost the economy. Finally, to pay for all of this, Japan must deregulate dramatically. This will increase economic activity, create jobs, and generate the growth that will then provide the revenues to balance the budget.
Japan's bureaucrats are still mismanaging the world's second-largest economy. Disdainful of common sense and market economics, they hiked taxes, only to find that the economy fell like a rock. A recession will result, and will more likely be deeper than the previous three. In fact, the 1990s look increasingly like a single long recession briefly interrupted by aborted recoveries. Unless the tight fiscal policies are set aside, the economy will go down, taking the budget with it.
Much the same goes for the effort to clean up the banks. The Japanese bank cleanup is politicized, as it was in the U.S. Populists hate the banks and conveniently forget that banks are a necessary part of the economy. The more prosperous they are, the more they lend. Bank cleanups are costly, but there is little choice. Without lending, there's no growth. Tokyo must bite the bullet and override the voters with some blunt truth about past mismanagement and current risks.
Deregulation is the third step Japan must take to get its economy going. It has been promised forever yet remains stalled. Because of restrictions to entry and a high cost of doing business, Japan's economy has too few people paying taxes. The nation desperately needs a Reagan-Thatcher revolution.
Japan is the weakest link in the world economy. It is rich beyond belief, mismanaged like no other place, stuck in a slump, and sinking fast. Without a vigorous economic expansion, Japan's fiscal problems cannot be solved, the Asian financial crisis cannot get better, and the open world trading system cannot operate smoothly. The U.S. should not and cannot bail out a rich trading partner that can't get its act together.
Hashimoto has said, characteristically: "We are different from the Asian economies. We are rich." True, but it seems increasingly that Japan would rather take its wealth to the grave than do what is necessary to change.