The word “Japan” has become synonymous with economic malaise. Any time an economist wants to describe how bad things could get for an industrialized economy, he or she inevitably says something like the place “could end up like Japan.” And there is good reason why Japan has become a four-letter word in the world of economics. Ever since a gargantuan stock-and-property price bubble deflated in the early 1990s, Japan has never returned to its pre-crisis glory days. The economy slips in and out of recession. Japanese companies seem dazed and confused, and are losing out to more aggressive rivals from South Korea, Taiwan and elsewhere. The welfare of the population has stagnated. Meanwhile, Japan’s policymakers and political leaders do a lot of blabbering and very little reforming. They often appear out-of-touch with the real problems of the economy or unwilling to fix the ones they do recognize. Japan’s mess is that dreaded “L”-shaped recovery, in which an economy collapses, and then just goes flat, year after year, never quite recovering from its fall.
With the recovery in the U.S. so feeble nearly three years after the evaporation of Lehman Brothers, we have to wonder: Is America facing the same future as Japan? Here’s what I think:
We can find some unfortunate similarities between the Japanese and American economic situations. In both countries, asset bubbles left financial sectors gutted and in need of drastic reform and repair, with huge consequences for other sectors. Just like the property bust in Japan, the housing bust in the U.S. will take years to work itself out. Both governments experienced worsening fiscal balances and precipitous increases in national debt as they struggled to keep growth alive through government spending. And in both capitals, political paralysis (though rooted in different factors) has prevented policymakers from truly tackling the problems head on. The course of the two recoveries has also been similar, in certain respects. Just as Japan limped along for years after its bubble burst, the U.S. has consistently appeared poised to sink back into recession – those recurring fears of a “double dip.” Just when hope comes alive that the recovery is really, truly on track, we find out it’s not. The Japanese know all about that. Clive Crook of the Financial Times recently argued that the possibility the U.S. might end up like Japan has to be taken very seriously:
The administration thinks the pace of recovery will pick up soon. Last week President Barack Obama called the pause a “bump in the road”. Others think the slowdown will persist and might get worse, fears that cannot be dismissed. One alarming possibility is that the traits the US has relied on to drive growth in the past – labour market flexibility, rapid productivity growth – might have become toxic. If the US is unlucky, traits seen as distinctive strengths are now weaknesses, and a “lost decade” of stagnation, like Japan’s in the 1990s, might lie ahead.
He has a point. One of the reasons why Japan has been unable to recover is that the strengths that drove rapid growth before its financial meltdown — bureaucracy-led policymaking, close ties between government, business and banking, and consensus-based corporate management systems — became impediments to growth after the crisis. Too much government interference came to stifle new thinking on policy, while insular management became resistant to globalization and out-of-touch with emerging business trends. What happened is that the world changed around Japan and Japan didn’t change with it. Japan’s economic model could no longer succeed in a world where up-and-coming economies (South Korea, Taiwan, China) were eating away at Japan’s competitive edge. The Japanese failed to reform and respond, and the result is continued stagnation.
Crook raises the possibility that today the main factors behind America’s usual strong economic performances and post-recession recoveries are becoming the anvils in a Wile E. Coyote cartoon. The vaunted flexibility of America’s labor market – usually seen as a key factor in its corporate competitiveness compared to more protective Europe — may in these times be a hurdle to growth if unemployment remains too high for too long. Crook also notes that the famed American ability to improve productivity may actually hurt demand by turning real interest rates positive. In other words, the very things that make the U.S. economy tick, as in Japan, could end up prolonging the pain.
I, however, don’t see things that way. While I have little hope for Japan’s economic future, I don’t see the U.S. heading in the same direction. There are just too many differences between the two economies, differences that can work in America’s favor.
First, I have much more faith in the American corporate sector than Japan’s. One big problem that stymied Japan’s recovery was the sickness of its companies. During the boom years, companies took on too much debt and built too many factories, creating useless excess capacity. The result: “Zombie” companies that were too indebted to grow and were kept alive by creditors. Japanese companies have also been slow to adapt to new trends in global business. They’ve haven’t been aggressive enough, for example, in capitalizing on emerging markets or latching on to new consumer trends. Japanese firms, for example, are losing out to Samsung and LG in flat TVs and to Apple and others in smartphones. American firms don’t have either of these problems. Continued strong profitability and rising stock prices are a testament to the health of America’s corporate sector, even after the Great Recession. And American companies continue to lead in all sorts of innovative industries. It’s Americans who are developing the iPad and Twitter, not Japan. That makes America’s situation much different than Japan’s – the corporate sector is potentially part of the solution, not the problem.
Secondly, the U.S. is a much more globalized economy. True, exports play a bigger role in Japan’s economy than America’s. But the U.S. is much more open to foreign investment and foreigners. We can’t underestimate the importance of the fact that the U.S. is still a very attractive place to invest. Nor can we ignore the benefits the U.S. gains from immigration – entrepreneurship, talent and new influences. Japan hasn’t been willing to open to the world, and that has made the domestic economy uncompetitive and the population old.
Third, I just don’t think that the level of denial is the same in Japan and the U.S. What I find so infuriating about Japan is that the place has been an economic catastrophe for 20 years and its politicians and corporate leaders don’t seem willing to do much about it. Denial has been a big part of the Japan story since the bubble burst. It took a half decade for the Japanese government to begin restructuring the moribund banking sector after its financial crisis. The unwillingness to admit the depth of the problems continues to this day, built into a policy-making process and political system resistant to change. In the U.S., matters are different. Yes, there is paralysis in Washington, with pointless ideological battles and political posturing. But there is also a national debate on what ails America to a degree that doesn’t exist in Japan. That gives me a bit more hope that the U.S. can more readily reform than Japan.
And don’t get me wrong. There are problems that need solving and reforms that need to get done. I worry that the sentiment in Washington is that fixing the stalled recovery means simply creating more demand – to get consumers spending again and companies investing again. Then there is the debate over the need for continued government stimulus. Of course, demand is the problem, but things aren’t that simple. There are also structural impediments that need to get resolved if the U.S. is return to health. That’s something the Japanese never realized. Its politicians thought that if they just spent a bit more money this year, growth would restart without making politically sensitive choices. Now they have government debt equal to 200% of GDP.
What I mean by structural is that real damage has been caused by the housing bust and Great Recession that needs to be addressed. Take a look at unemployment data, for example. Joblessness in construction is at 20%, the highest of any industry. That’s a consequence of the housing bust. These people may need to find jobs outside of their industry – who knows when the housing market will stage a major comeback. That means the U.S. needs to invest more in job training and education to prepare the unemployed for new jobs in new industries.
There also needs to be reform in the corporate sector. Productivity gains are all well and good, but not if they destroy your market. If the unemployed don’t have the money to buy the cars you make or burgers you flip, then eventually the profitability gains from cost-cutting turn counterproductive. Corporate America needs to reform its idea of “shareholder value” and look as much at the long-term interests of their businesses as the short-term stock price.
Fixing America’s economy will not be easy, and it may take a while. But some changes need to get made. Otherwise the word “America” may turn into a synonym of “Japan,” and the U.S. could end up going to L.