Japan's Toxic Cocktail Fails U.S. Taste Test

Japan's Toxic Cocktail Fails U.S. Taste Test: Caroline Baum

By Caroline Baum -

Caroline Baum

Japan is an old country, and I’m not talking about the place.

Twenty percent of the population is 65 or older, putting Japan in first place, in a tie with Italy, in the geriatric country competition, according to the Stanford Center on Longevity.

The average number of births per woman has been below the replacement rate of 2.1 births per woman for 40 years. At the same time, Japan boasts the highest life expectancy of any country: 82 years.

Put it all together, along with a reluctance to address financial-sector insolvency and industry inefficiency, and you get a toxic mix. A shrinking workforce must support a growing number of retirees, auguring slower economic growth and reduced living standards.

Deflation, in other words, isn’t the worst of Japan’s problems. It’s a symptom, not a cause, of two decades of post- bubble economic malaise.

In the 20 years since the Nikkei 225 Stock Index peaked just shy of 39,000, Japan’s consumer price index has averaged 0.5 percent. That’s 0.5 percent with a plus sign in front of it. In the last 10 years, the CPI has declined at an average 0.3 percent rate. Even the most discerning shopper can’t differentiate between the two.

Avoidance Model

And yet, Japan is the model, albeit an avoidance model, for the U.S. Federal Reserve. In contemplating another round of quantitative easing, U.S. policy makers are determined to ensure that Japan’s deflation doesn’t happen here.

Is the U.S. deflation prone? Almost five years after the housing bubble burst and almost three years after the U.S. economy slipped into recession, there is no deflation in the data. All that economic slack Fed officials point to -- an unemployment rate of 9.6 percent and industry utilization rates at recession-like levels -- and a contraction in credit, and still there’s no sign of falling economy-wide prices. (The Fed claims that the CPI has an upward bias, which is why it targets an inflation rate of 1.5 percent to 2 percent instead of zero and calls it price stability.)

Deflation, if confined to gently falling prices and not a Great-Depression-like downward spiral, isn’t the scourge Fed officials make it out to be. Just ask Japanese consumers.

In an Oct. 15 column, the Financial Times’ Gillian Tett cites the results of a Bank of Japan survey of the public’s attitude toward deflation. Forty-four percent said deflation was favorable; 35 percent were neutral on falling prices; and 21 percent gave it the thumbs down.

Deflation’s Upside

In a country for old men (and women), consumers want their yen to go a long way, especially with wages declining for the better part of the last decade.

Of course, deflation is bad for debtors, who have to repay their loans in yen or dollars that have appreciated in value. Historically Japan has been a nation of savers, even as the Japanese government racked up debt equal to 200 percent of gross domestic product from umpteen (who can keep track?) fiscal stimulus initiatives.

“It’s as if the Obama administration had done a lot of fiscal stimulus programs and no TARP,” says Carl Weinberg, chief economist at High Frequency Economics in Valhalla, New York, referring to the U.S. Treasury’s Troubled Asset Relief Program to recapitalize the banks.

Unlike Japan, the U.S. realized it had to fix Wall Street (the banks) in order to fix Main Street (get credit flowing). Both streets are still in need of road repair.

Compare and Contrast

There are a lot of other ways in which the U.S. isn’t Japan. As a young nation, our culture is oriented toward individuality, not conformity. Our economy and job growth rely on entrepreneurship, not industrial policy.

As a nation, we aren’t content to sit still, to endure years of sub-par growth. We can’t relax with persistently high unemployment, the kind from which Europe suffers. We demand that our government “do something” even though we’re not sure exactly what we want the government to do. (Provide benefits and cut taxes?)

To be sure, the U.S. has its share of problems, including an aging population (12 percent is 65 and older, according to the Stanford Longevity Center), trillion-dollar deficits, unsustainable entitlement programs for the sick and elderly and a political class that only thinks as far as the next election.

Japan’s deflation is the outgrowth of two decades of economic malaise, which in turn is the result of burst property and equity bubbles, the devastating effect it had on bank balance sheets and the government’s tendency to prop up zombie banks and zombie companies.

If the Fed wants to draw parallels between Japan and the U.S., which prefers its bubbles one at a time, I’d suggest an alternative to the deflation route. Both countries offer prima facie evidence of the need for bubble avoidance. Central bankers’ protestations to the contrary, the damage from leaning into them is a lot less than cleaning up afterward.