Japan's Stealth Recovery

The go-slow approach has left many problems in its wake

After more than a decade, the ongoing recovery in Japan finally looks like the real thing. Consumer spending, up 7.2% in April, is the best in 16 years. Stocks have gained 45% in the past year, and job growth is finally returning. What's more, most observers believe the world's second-largest economy could expand 3% annually for some time. Japan has, in effect, engineered a stealth recovery in a most Japanese way.

BusinessWeek, along with many others in the West, had given up predicting when Japan would embrace growth once again. Throughout the '90s, there were three false starts, lots of government promises of reform, and many disillusioned foreign investors who threw billions into fizzling market rallies. So what really happened?

In brief, Japan's leaders let time repair its bubble economy. Contrary to claims, the government did very little to force reform. Instead, it borrowed heavily and spent trillions of dollars on questionable projects to keep the economy afloat. Like waves wearing down a shoreline, the force of global competition slowly chewed away at the nation's high cost structure. Business saw their mighty keiretsu, so dominant in the 1980s, shed unprofitable affiliates, move manufacturing offshore to China and Southeast Asia, and leave jobs idle. As cartel pricing crumbled, imports flooded in in large quantities for the first time. Cheaper clothing, shoes, foods, and electronic gadgets showed up at discounters, and shoppers opened their wallets again. Foreign workers arrived and Japanese temps replaced permanent workers. As a result of its burst bubble, Japan is still deflating, but the deflation has so far been benign -- forcing prices back down to world levels from their previous boom highs.

But the approach that Japan has taken -- glacial change to maintain social stability -- has left many problems in its wake. A generation of young people who went through a decade with few jobs must be hired. Bad loans at the banks have been halved, but there is still a mountain of debt to pay off. A pension system that is broke needs repairing. Government-owned businesses, especially the Postal Savings system, need to be privatized. A staggering government debt burden equal to 160% of gross national product needs to be reduced.

To the world's surprise and delight, Japan is back. With so many problems remaining unsolved, Japan needs strong growth for years to come. Let's hope this recovery lasts.

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