Prepare for a downfall.

Photographer: Kazuhiro Nogi/AFP/Getty Images

Japan's New Stimulus Is Just the Same Old Thing

Noah Smith is a Bloomberg View columnist. He was an assistant professor of finance at Stony Brook University, and he blogs at Noahpinion.
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Japanese growth is still sluggish. Consumers aren’t consuming much, and businesses aren’t investing. The government doesn't have many options to remedy this, and the Bank of Japan, which has sent both long-term and short-term interest rates into negative territory, has basically no more room to maneuver.

The dreaded Zero Lower Bound is starting to bite. The BOJ is buying more stocks, but this too has its limits -- eventually companies become de facto nationalized, as the government becomes the majority shareholder. That’s scary both because it would affect corporate governance, and because it would be politically unpopular. It’s also unclear how much of an economic boost the stock-purchasing program has given the country anyway. The BOJ could resort to policies like a higher inflation target or the much-discussed “helicopter money” approach, but so far it has been afraid to take these steps.

With the BOJ seemingly out of the game, demand-side macroeconomic policy is up to the parliament. So this week the government of Prime Minister Shinzo Abe proposed a new fiscal stimulus package.  It is moderately sized:  about $45 billion in U.S. dollars this year, and about $60 billion in low-interest loans, to be followed by slightly less next year.

That move might win a few halfhearted cheers from Japan’s battered consumers, but it’s unlikely to have much of an effect. First, it’s just another in a long series of such moves, none of which have done much to jog the country out of its long, grinding stagnation. Bloomberg News’s Maiko Takahashi and Isabel Reynolds have a great chart showing a quarter century of Japanese stimulus bills, including a breakdown of their announced sizes and their actual spending amounts:

Japan Stimulus Almost Never as Big as Announced
 
Source: Japan Cabinet Office, via Goldman Sachs, Bloomberg

It’s clear that the current effort is nothing special. Looking at this history, it’s obvious that Japan’s stimulus bills are not the temporary, recession-fighting measures typically employed in the U.S. and advocated by most Keynesian economists. They are a "structural object" -- a more-or-less constant flow of deficit spending. Abe’s new stimulus merely shows that he’s not going to deviate from this long-standing pattern.

This is one big reason why we shouldn’t expect the new spending to give Japan’s economic numbers much of a boost. Businesses and consumers have come to expect this regular flow of government spending -- having experienced it nonstop for over two decades, they’ve already accounted for it in their investment and consumption plans. So while the stimulus might keep the economy from falling into a recession -- as might otherwise happen if people’s expectations of yet another government spending binge were suddenly dashed -- it’s unlikely to alter the anemic trends of recent years.

But there’s another, even bigger reason why this stimulus isn’t going to do much to juice Japan’s economy. The economy is already at full employment.

Demand-side measures, by their very nature, rely on putting unused resources to work. Idle factories and unemployed workers are matched, thanks to the flow of government spending that works its way through the economy. This is the classic mechanism that John Maynard Keynes and his followers envisioned. But it relies crucially on having those unused real resources sitting around.

And Japan’s employment rate now stands at a historic high. Almost 73 percent of the population aged 15-64 have jobs. In the 1980s, the rate was under 68 percent. There are simply very few Japanese people left to put to work.

Fiscal stimulus is not supposed to work very well under those conditions. Studies of fiscal multipliers -- a measure of the effect of government spending on gross domestic product -- typically agree that  return is much lower when unemployment is low. So we should expect this new bout of spending to get very little bang for the buck.

In the meantime, the new spending will  actually undermine one of Abe’s most overlooked accomplishments -- fiscal sustainability. Thanks to the government's  sales-tax hike, zero interest rates and healthier corporate profits, Japan was moving toward having a deficit that was -- just barely -- sustainable in the long term. This stimulus, and the others that will inevitably follow if the pattern isn’t altered, will push the primary budget deficit back above the rate of long-term potential growth in nominal gross domestic product.

That wouldn't put the country in immediate danger of default, but it would raise talk of more consumption-tax hikes to plug the hole. Japan’s citizens are going to wonder where their money goes each time their taxes get raised. Everyone pays taxes, but not everyone benefits from spending of this sort. Eventually, that seems likely to raise the ire of Japanese voters.

So what should Japan do instead of continual fiscal stimulus? At this point, there’s really no option except to focus on worker efficiency. Japan’s labor productivity has been essentially flat for a decade. Monetary and fiscal stimulus have put everyone in Japan into jobs, but they aren’t doing the kind of work that takes full advantage of their skills. Productivity-focused reforms -- improving corporate governance, liberalizing labor markets and opening up protected domestic markets -- are the best move, even though they will take years to have an effect.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Noah Smith at nsmith150@bloomberg.net

To contact the editor responsible for this story:
Tobin Harshaw at tharshaw@bloomberg.net