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Commentary: 5 yrs of Abenomics yields uneven success

  • April 19, 2018
  • , The Japan News , 2:04 p.m.
  • English Press

What changes did Abenomics — Prime Minister Shinzo Abe’s economic policy package — lead to after the so-called “lost two decades,” Japan’s period of stagnation that started in the 1990s? Stanford University Prof. Takeo Hoshi spoke with The Japan News about his assessment of the results of five years of Abe’s policies and possible future measures. The following are edited excerpts from the interview.


The Japan News: After the bubble economy collapsed, Japan was trapped in a so-called lost two decades. What did the Abenomics economic package change about this situation?


Lost two decades not really lost


Hoshi: I think it’s important for us to realize the lost two decades was not really lost, in the sense that the Japanese economy collapsed and people’s quality of life declined a lot. Those things didn’t happen; Japan had a high level of living and more or less maintained that level. So in that sense, during the so-called lost two decades, Japan did not really lose something they had. It’s more about a lost opportunity, that the Japanese economy didn’t do bad, but it could have done better.


There are two important characteristics of the so-called lost two decades for Japan. One is the low economic growth rate, sometimes negative. Second is the phenomenon of deflation, where the price level continues to fall. Those two are important aspects of the so-called lost two decades. From the economic point of view, the combination of deflation and economic stagnation implies several important things.


Deflation suggests demand shortage was a more important constraint on the economy than supply capacity. But at the same time, we know deflation was mild throughout that period. We didn’t experience a deflation spiral. So that suggests demand shortage was not the only problem. If it was, we would have observed a deflation spiral because the gap between demand and supply would have continued to grow. It didn’t happen. So that suggests the supply side stagnated as well. In summary, Japan’s problem came from both demand shortage and supply side stagnation.


Q: What do you think are the negative aspects of Abenomics?


A: There may be some side effects of the aggressive monetary policy. Bank of Japan Gov. Haruhiko Kuroda and the BOJ entered an area that no other central banks ventured into before, including the policy to buy all sorts of assets and the negative interest rate. One problem that was created is that the negative interest rate policy reduced the profitability of the financial industry and the banking sector, which may have reduced the banks’ ability to lend or continue to function as financial intermediaries.

That’s one potential problem, that many financial institutions cannot continue without some profit margin, and the negative interest rate policy may have eliminated those margins.


Huge govt debt a serious problem


Another problem is perhaps more serious. Fiscal expansion was also a part of Abenomics and government debt increased a lot during that period. The BOJ’s policy to buy government bonds helped the government to expand fiscal policy. So far, it hasn’t led to any problems like higher interest rates or the market’s reluctance to buy government debt. But the amount of Japanese government debt is huge. It’s currently about 240 percent of GDP. So far, it hasn’t been a problem because the interest rate was very close to zero. But as soon as the interest rate starts to increase — which should happen if the economy recovers and the inflation rate starts to go up — then the government may have difficulty rolling over the debt. That would create a huge problem.


Originally, the second arrow of Abenomics was called “flexible fiscal policy,” which meant not only fiscal expansion in the short run, but also fiscal consolidation in the long run. The government so far did well in fiscal expansion, but they have done little for fiscal consolidation. It’s important for the government to come up with a credible long-term plan to balance the budget.


Q: Is the government likely to declare it has overcome deflation?


A: I think it’s safe to say Japan has moved out of a deflationary phase. What we haven’t reached is an inflationary stage; the two percent inflation target is still far away. One important reason why we haven’t seen inflation in Japan even though the economy is recovering is the lack of wage increases. However, we may start to see the increase of wages this year, as suggested by the results of this year’s spring wage negotiations(shunto) at many companies. Raising wages is something Prime Minister Abe has been encouraging companies to do and that may be finally happening.


Q: During the five years of Abenomics, what changes have been seen in the supply-demand gap and labor productivity?


A: There are several estimates of output gap: the International Monetary Fund has their numbers, the BOJ has their numbers. According to the IMF, the output gap is approaching zero, and for the BOJ, the output gap is already positive, that is, the aggregate demand exceeds the supply capacity. The output gap has shrunk dramatically during the five years of Abenomics. So in that sense, policies to expand the aggregate demand were successful.


On the supply side, we see more of an uneven success. Abenomics has the growth strategy that includes many potential reforms. Some of those, including reform on labor practices and on opening up the Japanese economy to the rest of the world , are not yet fully implemented. Structural reforms naturally take time, and we haven’t yet seen the impact of structural reforms on the supply side of the economy. Labor productivity is still low, so that’s where Japan needs more efforts.


Q: What do you think about the focal points of the structural reform?


A: The first version of the growth strategy was published in June of 2013, and after that it has been revised every year. From the start, the strategy included two types of different policies. One is various economic deregulation, which would allow the private sector to do more. Such deregulation would stimulate economic activity and accelerate productivity growth. This set of policies also includes reforms to make the various markets, such as the labor market or the capital market, more flexible.


In addition to those deregulation-type policies, the growth strategy includes industrial policies, in which the government identifies promising industries, be it robotics, medical, the health industry, tourism industry, agriculture, and tries to subsidize and encourage the growth of the chosen industries. So from the start, growth strategies included these two types of different policies.


Industrial policy may have been effective during the period when Japan was catching up to more advanced countries, when it was clear what Japan should do in order to grow. They were able to look at more advanced countries and it was relatively easy for the government, or anyone for that matter, to identify promising industries.


But after Japan caught up, it’s not clear where the next innovation comes from, and what the new promising industries are. We can guess, but our guess often turns out to be wrong and what happens, is something nobody has imagined as we can see from the sudden dominance of the market by products like iPhone or iPad. We never knew we needed those things. So we don’t know where the new innovation will come from. We think it’s probably related to AI or robotics, but we don’t know. The government policy is expected to be less effective in the advanced economic growth based on innovations.


But a substantial portion of the growth strategy continue to be industrial policies.


Good opportunity for AI development


Q: How will the government tackle Japan’s population problems?


A: One way to mitigate the aging problem is to let old people maintain their health and continue to work. This has already been happening in Japan.


I think the population problem is exaggerated. People now can work longer than the previous generation did and many people want to work longer. This is because many people are much healthier than their parents or their grandparents. Another important thing is the impact of technology. Many machines replaced physical labor in the past; now our intellectual labor can also be replaced by AI and advanced machines. This is a great thing for a country like Japan which is experiencing the decline of the labor force. Probably a more important thing is that AI or many other machines will not replace human beings entirely but help them become more productive. By increasing productivity, Japan can respond well to the challenges of the population decline or aging.


Relaxing immigration policy would also help. There are some studies which suggest that immigrants are more likely to innovate or the areas where there are more immigrants tend to have more innovations. And there is increasing evidence that companies with more diversity tend to have higher productivity. I think increasing immigration for Japan is important, more in stimulating innovation and productivity growth than just increasing the number of people.


Q: What kinds of policy measures should the government pay more attention to in the near future?


A: Abenomics is a combination of expansionary macroeconomic policies and structural reforms. The government has done reasonably well in expansionary macroeconomic policy, though the efforts need to be continued. The output gap is now close to zero, so what is constraining the economy is the supply side. The government should focus on supply-side structural reforms, more than they have been doing.


■ Takeo Hoshi / Stanford University Professor

Hoshi is also chair of the board at The Tokyo Foundation for Policy Research. Before he joined Stanford in 2012, he was a professor of international economic relations at the Graduate School of International Relations and Pacific Studies at the University of California, San Diego. He received his PhD from the Massachusetts Institute of Technology after graduating from the University of Tokyo. He is 57 years old.


—This interview was conducted by Japan News Staff Writer Etsuo Kono.

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