What Next for Japan?
The banking system is as precarious as ever and the stock market is in free fall
Seven years ago, Japan sat astride the corporate world, swathed in an aura of invincibility.Skip to next paragraph
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Its manufacturers had steamrollered their way across Europe and North America and celebrated with a wild spending spree on skyscrapers, movie studios, and golf resorts. American politicians became accomplished Japan-bashers. Pundits (on both sides of the Pacific) hypothesized that Japan's unique brand of capitalism - enlightened government intervention in the economy, consensual decision-making, lifetime employment, clubby corporate cross-shareholdings (that fostered a kind of "stakeholder" capitalism, as opposed to America's "shareholder" capitalism) - would carry the day. To prosper, the United States had to become more like Japan.
Nobody makes this claim today, even though "stakeholder" capitalism has become a rallying cry for moderate leftists, such as Bill Clinton, and Britain's Tony Blair. Japan has suffered through seven years of stagnation and recession, while the US economy has boomed. America's gross domestic product is up 22 percent since 1992; Japan's has expanded by 6 percent, mostly on the back of increased government spending ($300 billion worth) that has saddled the country with debts and deficits. The Japanese stock market is 55 percent below its 1989 peak, corporate earnings are limp, and banks are buried under mountains of bad debt. Unemployment is rising and consumer confidence continues to plummet as weak demand depresses earnings and pushes companies and banks to the brink of insolvency.
Japan's woes are rooted in the bubble economy of the 1980s - the bubble that so many observers mistook for a "miracle." Banks lent huge sums of money against largely hypothetical property valuations ("hypothetical" because few properties changed hands), and borrowers used the proceeds to buy shares and land, causing the prices of both to rise spectacularly. At the same time, banks used unrealized gains on their share portfolios to meet capital requirements and justify further lending.
After the bubble burst
When the bubble burst (because of rising interest rates) the banks faced the double jeopardy of an eroding capital base (because of their own exposure to the stock market) and a surge in defaults, especially on loans backed by property and shares. The result was a liquidity trap that sent the economy into a tailspin.
Japan's policymakers tried everything to stem the tide: They intervened to prop up the stock market (since every drop threatened the banking system); they propped up insolvent banks; they cut interest rates to the bone (in an effort to spur demand); they let the yen depreciate against the dollar (hoping to spur exports); and they spent vast sums on public works (in an effort to stimulate the economy). But nothing worked. After seven years and $300 billion of muddling, the banking system is as precarious now as ever, and the stock market has resumed its free fall.
Now Japan's humbled bureaucrats have decided to try something radical: doing nothing. The government of Ryutaro Hashimoto has abjured stock market intervention, forsworn fiscal stimulus (a tight 1997 budget occasioned shares' latest plunge), and even let a bank fail. More significantly, it has set forth an ambitious program of deregulation, targeting power generation, distribution, transportation, and telecoms, along with the financial sector.
If the Japanese are true to their word (and the markets have already begun to doubt they will be), this marks nothing short of a revolution, even though things will likely get worse before they get better. The stock market, still spectacularly pricey by global standards, will plunge further (it could go down by half and still boast higher price-earnings multiples than the "irrationally exuberant" American markets); the banking sector needs massive shaking out; and Japan's cosseted monopolies must rationalize payrolls and improve shareholder returns. But no one doubts that these things must happen if Japan is to secure its future.
Be more like America
Japan has discovered that it is not unique: It has prospered insofar as it has embraced markets, competition, and democracy (parts of the Japanese economy are awesomely competitive). It has stored up trouble, insofar as it has clung to its collectivist and elitist traditions (heavy-handed government, tight regulation). To set things right, it will have to shake off its interventionist tendencies, deregulate its economy, devolve power to individuals, strengthen its democracy, and stress competition over consensus. In short, it will have to become more like America.
This should give pause, both to those in the West, who extol the virtues of stakeholder capitalism, and to those in the East, who argue that they have developed a unique brand of capitalism that delivers miraculous growth without the inconveniences of American-style democracy and freedom (a logical contradiction, since markets are inherently democratic).
They will discover, as Japan has, that while economies can record high growth rates by playing catch-up or by inflating asset bubbles, long-term prosperity (a function of competitiveness and innovation) depends on a full and coordinated embrace of market economics, individualism, and democracy. These are the triple pillars of modern civilization - Western and Eastern alike.
Japan is paying the price for its conceits. The price exacted on Asia's latest "miracle" economies (where three pillars have given way to one) is likely to be many times as great.
* John S. Suits runs a Toronto-based investment company.