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Japanese stagnation offers glimpse of a future best avoided

Apart from the ever-expansive Federal Reserve under determined coach Ben Bernanke, frustrated central bankers are showing a growing desire to punt the ball back into the fumbling hands of the politicians – or in the case of Canada's Mark Carney, to reluctant spenders in the corporate sphere – when it comes to getting battered industrial economies back into the game.

Despite a widening recession across a large swath of the euro zone, the European Central Bank kept its benchmark interest rate at 0.75 per cent last week. ECB chief Mario Draghi warned that governments must help themselves by continuing "to implement the necessary steps to reduce both fiscal and structural imbalances and proceed with financial sector restructuring measures."

To figure out where all this might be going, look to Japan. It has been facing a similar dynamic for the past two decades.

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In Japan, which is also staring at yet another recession, the central bank couldn't cut rates any further if it wanted to. But policy makers also rejected other forms of monetary stimulus at the conclusion of their regular meeting Friday.

And that's despite, or perhaps because of, the fact the Bank of Japan had a rare guest at the table – Economy and Fiscal Policy Minister Seiji Maehara, in what was described as the first such appearance by a cabinet minister in nearly a decade. Mr. Maehara and other politicians have been increasingly vocal about the need for monetary authorities to do considerably more on the policy front to stanch the economic bleeding and bring down the value of the yen, which gained on Friday's developments.

"I have a sense of crisis about the continued strength of the yen and Japan's inability to overcome deflation. I wanted to express this feeling through my attendance at the policy board meeting," said Mr. Maehara, who was just appointed to the post last Monday in the latest cabinet shuffle.

The BoJ's unperturbed governor, Masaaki Shirakawa, flatly declared that his institution can't fight falling prices on its own and has no intention of raising its inflation target. "It's imperative for the government to tackle various areas of deregulation so that companies can undertake greater efforts [to expand]."

Meanwhile, the central bank has reduced its outlook for both the economy and consumer prices, even while sitting on its hands. "Downgrading the economy or growth rates means revising down the outlook for improvement in the supply-demand gap," Mr. Shirakawa said. "That qualitatively means downgrading consumer prices."

As a handful of countries slide toward a Japanese-style gloomsday scenario of chronic economic weakness and sliding prices, leading Japanese economist Motoshige Itoh sides with the central bankers.

"It took many years for Japan to recover from the deflationary trap due to the lack of appropriate policies," says Prof. Itoh, president of Japan's National Institute for Research Advancement and a professor of economics at Tokyo University. "The U.S. and Europe may face similar problems" from their own "Japanization" issues.

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"Adjustments in overvalued real estate prices and excessive debt of corporate sectors are critical for the recovery from a deflationary condition," Prof. Itoh tells me in an e-mail exchange. "Adjustment seems to be almost finished. The ... structural issue is more important in the long run."

The key to a sustained Japanese recovery lies with government fiscal and social security reforms, liberalization of energy, health and other key sectors, free trade deals with Canada and various other trade partners and a raft of other policy changes designed to boost market efficiency, says Prof. Itoh, head of a panel that has advised the government to fully liberalize the electricity market. He will be speaking in Toronto Friday at a lunch event sponsored by the Japanese consulate and the Japan Society.

"The Japanese government recognizes the importance of supply-side reform and has discussed its growth strategy, but it cannot move to effective implementation," he says, ruefully. The reason: A deeply divided parliament and nearly paralyzed political leadership, which makes it difficult to introduce drastic reforms facing stiff opposition from special interest groups.

Heck, this bunch can't even get approval to issue the debt necessary to finance the current budget shortfall.

"The Japanese economy is facing a changing economic environment, and speedy reform is necessary," Prof. Itoh argues. But the dysfunctional nature of the country's politics makes it tough. Policy makers in the U.S. and Europe ought to be able to relate to that.

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About the Author
Senior Economics Writer and Global Markets Columnist

Brian Milner is a senior economics writer and global markets columnist. In a long career at The Globe and Mail, he has covered diverse business beats, including international trade, the automotive industry, media, debt markets, banking and the business side of sports. More


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