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Japan after Deflation

In: The Global Recession Risk

Author

Listed:
  • Carlos M. Peláez
  • Carlos A. Peláez

Abstract

Summary The Prime Minister of Japan, Junichiro Koizumi, obtained a landslide victory in the election of September 11, 2005.9 The ruling Liberal Democratic Party (LDP) has now a two-thirds majority in the lower house. Thus, it can pass the bills in the lower house even if they are rejected by the upper chamber. The voter turnover was 67.5 percent, the highest since 1990. An increase in confidence by Japanese consumers could be important in finally recovering the economy from the “lost decade” caused by the deflation that followed sharp declines of asset prices. On September 12, the revision of first-quarter GDP showed growth of 3.3 percent, three times faster than originally reported. Koizumi called the election because of the defeat of his bill to privatize Japan Post, the largest financial institution in the world, with $2–3 trillion in deposits and 23,000 branch offices. He has advocated shrinking government with a larger role of the private sector. To be sure, Japan Post will only be privatized in 2017. However, it is an important change in direction similar to the change in the exchange rate regime in China. Japan requires important microeconomic reforms to increase productivity. Potential GDP growth in Japan is one percentage point lower than in the major industrial countries. Japan suffers from inefficiency in agriculture with producer support estimates of 58 percent, well above 20 percent in the United States and 35 percent in the European Union. Japanese banks finally stabilized their NPLs but still suffer from low profitability. Japan has significant home bias in investment, or preference for domestic securities, at a high cost of diversification.Labor markets are inflexible, requiring higher participation of women in the labor force. The ageing population of Japan has reduced the savings rate and creates major future social security expenses. Corporate governance is deficient and not conducive to optimization of shareholder value. The net public debt of Japan is about 80 percent of GDP and the deficit 7 percent.The country requires a major fiscal effort to stabilize and then reduce the debt. These challenges of structural reform would not be possible in an environment of political confrontation. Countries with a single party that remains in power for generations find significant hurdles in implementing change. The LDP has held power in Japan for over 50 years. Change is possible but difficult. The ruling party in Mexico during 70 years, Partido Revolucionario Institucional (PRI), took deep measure to reform the economy and even turned over power to another party. However, the process was not simple or without confrontation. Japan is extremely important in geopolitical influence in Asia. It is the only balance on the continuing rise and influence of China. A sound economic recovery of Japan with stable political development is strategically important to world stability. Japan is the second largest economy in the world and its continuing economic weakness adversely affects global trade and growth. Recovery of Japan would make the world less dependent on United States growth because of the continuing weakness in Europe. Various sections below consider the economic distress of the “lost decade,” the analysis of deflation, the conduct of monetary policy, the intervention in the foreign exchange rate and the required structural reforms. The conclusion draws on the analysis of the IMF on the microeconomic reform and macroeconomic management of Japan.

Suggested Citation

  • Carlos M. Peláez & Carlos A. Peláez, 2007. "Japan after Deflation," Palgrave Macmillan Books, in: The Global Recession Risk, chapter 3, pages 81-115, Palgrave Macmillan.
  • Handle: RePEc:pal:palchp:978-0-230-20659-5_5
    DOI: 10.1057/9780230206595_5
    as

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