How I think about Japan

In the popular imagination, the story of post-war Japan is one of extremes. Its rapid economic growth through the 60s, 70s, and 80s — which turned it into the first non-Western developed country, and made America tremble with fear that they would eat our lunch —  was a miracle. But then, it experienced an enormous, spectacular real-estate and asset bubble, which, when it popped, caused an unmitigated economic disaster.

Overall, this narrative is overdone and overstated. But let me hedge a bit: I’m in an unusual position here, because, typically, one of my main tasks as an emissary from humanities people to economics people and (in this case) vice versa is to explain to the former that, no, actually, economic growth really does matter. And, depending on how you calculate it, after the bubble burst, Japan more or less experienced a “lost decade” or almost two, with negative growth at times and negligible growth over all. This has significantly compressed the basic job opportunities for Japanese young people, and completely knocked the country off of its prior path. Becoming (as it was on pace to become) by far the most affluent society in human history would have allowed Japan to leave enormous, indelible marks on culture and the international order — 21st century Tokyo could have been the equivalent of 1920s Paris and London combined, and we would all be watching Japanese TV. Japan’s actual marks in the past two decades have been rather more muted.

But all that said, Japan’s initial catch-up growth was hardly a miracle, and life in Japan today is hardly a disaster — the average Japanese has a very high quality of life, which it would be unwise to pooh-pooh.

To see economics textbooks and commentators refer to the Japanese ‘miracle’ is curious, because according to their very own economic models — the very basic ones we learn in Econ 101 — it is exactly what we should expect of any poor country that has the basics down, namely (1) stability and (2) a semi-enlightened political leadership. Very simply, if a country is (1) stable (i.e., with rule of law, lack of coups, an independent central bank, etc.), (2) decently well-educated, and (3) poor, then multinational firms and international investors should pour capital into it, because with the right technologies it can, due to its workers’ low wages, produce anything its workers have the education to produce at a below-market cost. The influx of capital makes the country much more productive, which quickly raises its GDP and hence incomes. So poor but non-dysfunctional countries should quickly catch up to rich ones. And, indeed, once these countries have caught up, we might expect them to continue on ahead, because old, long-ago developed countries have a lot of technologically-outdated infrastructure lying around, while the newly-developed country’s infrastructure will be based on newly-developed technology, etc. There are slight complications — such as, perhaps, the need for some early protectionist policies to nurture industrialization in its infancy, to get the process going. But that’s the basic idea. (See Krugman on this here.)

So why the ‘miracle’ moniker? Well, Japan was the first to make it really work, though the Asian tigers quickly followed. And the really basic economic prediction — that poor countries should catch up pretty quickly as long as capital and manufactured goods can move across borders — didn’t come so much true in Africa, all of Latin America, or MENA. The fact that it hasn’t, and that Japan’s story is not the norm, is a testament to (1) the general dysfunction of politics and (2) abiding sources of social division and instability (e.g., tribal strife in MENA countries with colonial-era-drawn borders, and humanity’s general deep iniquity) that simple economic models don’t really factor in.

Still, Japan’s success is simply what we should have expected from a society that had been politically modernizing since the late 19th century, that enjoyed stability under the long government of the LDP, that was homogenous and hence socially stable, that had a population that had successfully taken to public education, that enjoyed peace and international security under the U.S.’s post-war watch, and that was poorer than the major economic powers.

Then, Japan’s asset and real-estate bubble was indeed extreme and spectacular, and so was its bust — but, frankly, occasional financial crises are a fact of modern economic life.

Since then, Japan has remained an affluent, developed, modern, slow-growth economy. From 2000 to 2010, its economy grew 17%. That’s not great, but it’s not horrible either. A strong yen means that Japan’s manufacturing export sector suffers — but that’s not so bad, because, at its income level, it really should be a modern, services-based economy. The flip side of the strong yen is that Japanese can enjoy travel and imported goods on the cheap. Under purchasing power parity, Japan has a per-capita income that trails just barely behind the U.K. and France, according to the IMF. And there’s virtually no crime or any other form of public obnoxiousness. The Japanese can enjoy a treasured and ancient culture, lifetime employment, and really fun, advanced, cities. Tokyo residents can eat at, I am told, more Michelin 4-star restaurants than anyone else in the world.

Should we feel totally assuaged? No. The story so far is okay, but Japan has big problems in its future. There are three huge, obvious ones: (1) enormous sovereign debt, (2) an aging population, and (3) a shrinking population. Japanese senior citizens will become increasingly expensive for the government to care for; and there is a shortage of new, young, taxpaying workers to provide the funding needed for that. So as the Japanese debt grows, investors could become nervous about Japan’s ability to repay its debt, and demand higher yields on the country’s bonds or short them. This could make it prohibitively expensive for Japan to borrow, prompting a fiscal crisis and political instability that could trigger a financial crisis. Japan, could, in short, be the next Greece.

And this is why, yes, growth, really does matter. Japan has no option but to grow its way out of that scenario.

Today, Japan is growing slowly partly just because it is now a developed, relatively contented country. But there are other drags on its growth that Japan can change. Some of these have to do with technical financial economics (i.e., Japanese banks are arguably still unwilling to write off some of the bad loans they made before the bubble burst, which prevents them from lending to new, hopeful ventures), and others with economic policy. Restoring vibrant economic growth, if it is at all possible, will require: (1) more monetary stimulus from the Bank of Japan (which actually looks, unexpectedly, to be happening!), (2) entitlement reform to bring down the country’s enormous debt (which looks unlikely, given the country’s weak political leadership, and that it is increasingly beholden to older voters), (3) labor market reforms that would trade off some of Japan’s famed job security for a more dynamic, liquid market (questionably likely), (4) a greater openness to immigration, both high-skilled and low-skilled (the former is sort of likely, the latter appears, unfortunately, to be totally out of the question), (5) corporate governance reform that gives shareholders more power to demand higher profits from the firms they own (which has been in slow progress since the Koizumi premiership).

Japan missed its chance to be the future. But it can still be a lovely home for its citizens if it makes these reforms now rather than later.


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