Excellent study material for all civil services aspirants - being learning - Kar ke dikhayenge!
SHARE:
Japan's industrialization - Part 1
1.0 INTRODUCTION
The meteoric rise of the Japanese economy from the ruins of the Second World War which has raised it to the position of the world's third largest industrial producer, has been one of the most significant and unexpected changes of recent history. Despite the destruction wrought by the Second World War, Japan overtook the leading industrial countries, built up powerful and technologically advanced industries almost from scratch, and has established a leading position in the world market. However, there are internal contradictions, untoward side-effects of rapid expansion and increased vulnerability to external shocks which have to be examined before the picture can be complete.
2.0 THE MEIJI PERIOD
In 1868 the Tokugawa shôgun ("great general") clan, which ruled Japan in the feudal period, lost his power and the Emperor was restored to the supreme position. The emperor took the name Meiji ("enlightened rule") as his reign name; this event was known as the Meiji Restoration. When the Meiji period ended, with the death of the emperor in 1912, Japan had
- a highly centralized, bureaucratic government,
- a constitution establishing an elected parliament,
- a well-developed transport and communication system,
- a highly educated population free of feudal class restrictions,
- an established and rapidly growing industrial sector based on the latest technology; and
- a powerful army and navy.
In the 1880s, the government led the way in economic activity, building railway and shipping lines, telegraph and telephone systems, three shipyards, ten mines, five munitions works, and fifty-three consumer industries (making sugar, glass, textiles, cement, chemicals, and other important products). This was very expensive, however, and strained government finances, so in 1880 the government decided to sell most of these industries to private investors, thereafter encouraging such activity through subsidies and other incentives. Some of the samurai and merchants who built these industries established major corporate conglomerates called zaibatsu, which controlled much of Japan's modern industrial sector.
The factors that contributed to Japan's remarkable receptivity to Western models were the relatively high level of education and literacy, the maturity of the pre-industrial economy, the absence of any strong prejudices against change in the sphere of production indeed, a bias in the other direction on the part of the military as well as the bureaucracy. These models were assimilated, developed and brought into conformity with national conditions.
One example of this was the combination of the old forms of small-scale, decentralized production that was highly labour-intensive, with the new large scale and more capital-intensive industries using, at first, imported technology. The former employed the old craft skills, worked on traditional materials and turned out products used in frugal Japanese households. The latter produced not only cheap textiles and other new products, for which a market might be found abroad as well as at home, but also the minerals, capital goods and armaments which were the bases of economic and political power. It was this modern sector, dependent upon imported technology, more capital-intensive and organized in larger units, which was to provide the thrust for continued industrialization. While part of the increased output could be absorbed in the home market, where there were new demands and government requirements, especially concerning the armed forces, markets abroad were to become of growing importance as expansion continued. The economic need for raw materials together with the need for new markets fitted in with the nationalist drive to expand overseas, in order to prevent Japan being hemmed in by hostile countries.
Due to the rural structure of the population, silk played a decisive role in the process of industrialization. Silk was already an established industry and raw silk proved to be an important export staple. With abundant labour, a potential home market and possibilities for export, it was reasonable to encourage the setting up of a cotton industry. A complete range of technology was available from the West, including steam power. Modern factories could be established at an early stage of the industrialization process, but there was also traditional small-scale production. For the government, with its nationalist aims, it was also of primary importance to encourage heavy industry as a necessary basis for political as well as economic independence. Japan could enjoy the advantages of the late-comer in taking over the technology and organization already proved in the advanced countries.
The decades of Meiji (1868-1912) were undoubtedly of great formative importance for the economy of modern Japan. By the end of the period it was well launched on the road to industrialization, and it had already taken a form which was distinctively Japanese. While preserving many of the original social and cultural traits which had characterized traditional Japan, a modern sector had been built up under the aegis of a particular form of organized capitalism in which nationalism and militarism played a central role. Much of the olzd industrial structure had survived or even been extended. At the same time, there was large-scale production and giant firms and banks played a dominant role in modern sector.
Traditional features, such as close-knit family ties, the dependence of women on fathers and husbands, the habit of obedience to social superiors and of disciplined cooperative labour, were turned to advantage in the creation of a labour force and the organization of industrial production. The relatively high level of literacy before the Restoration and the attention paid to expanding educational facilities assisted the dissemination of the new technologies and the process of learning and assimilation which went on. The Japanese proved very willing to go to school with the foreigner, displayed enormous curiosity about foreign models, and employed foreign experts and technicians to help found new industries. All the same, they carefully avoided dependence and maintained their own culture. At an early stage of the borrowing process, improvements were made to borrowed technology and resourceful entrepreneurs were responsible for innovations and improvements which adapted forms of technology to their own national environment. A tradition was thus established which was not that of slavish imitation.
3.0 1912-1941
The Meiji Restoration had changed the Japanese society and its global position. Japan strengthened itself enough to remain a sovereign nation in the face of Western colonizing powers and indeed became a colonizing power itself. During the Taishô period (1912-1926), Japanese citizens demanded more voice in the government and for more social freedoms. During this time, Japanese society and the Japanese political system were significantly more open than they were either before or after. The period has often been called the period of "Taisho democracy." One explanation is that, until World War I, Japan enjoyed record breaking economic prosperity. The Japanese people had more money to spend, more leisure, and better education, supplemented by the development of mass media. Increasingly they lived in cities where they came into contact with influences from abroad and where the traditional authority of the extended family was less influential. Industrialization in itself undermined traditional values, emphasizing instead efficiency, independence, materialism, and individualism. During these years Japan saw the emergence of a "mass society" very similar to the "Roaring 20s" in the United States. During these years also, the Japanese people began to demand universal manhood suffrage which they won in 1925. Political parties increased their influence, becoming powerful enough to appoint their own prime ministers between 1918 and 1931.
The First World War acted as a forcing house for the industrialization of Japan. Although formally a belligerent, her part in the war was a very minor one. Reduction in imports from the main countries involved in the war could not create a demand supply gap as Japanese goods flooded the market. Japan foreign trade increased by 300% which was mainly export led. At the same time, a larger market opened up for the underdeveloped countries of the Pacific area, who were already among Japan's trading partners and with whom she was able to extend her economic ties still further. With booming trade, investment at a high level and profitability good, the war proved to be a prosperous affair for business. For the mass of the people, however, there were new hardships. Prices rose about two and a half times, outstripping the wage rises of factory workers, many of whom were new recruits from the countryside. Price rises hit all consumers including those in the rural areas. There were serious social strains and unrest, culminating in the rice riots of 1918. Meanwhile Japan made territorial acquisitions in the Pacific area at Germany's expense and consolidated her position on the mainland. With the interest of the great powers focused on Europe, Japan's external position improved. At the same time, the favourable balance of payments enabled foreign debts to be cleared, and Japan became a creditor country. In short, the war benefited Japan both directly and indirectly and when it was over she was apparently poised to make further gains.
At the end of World War I, however, Japan entered a severe economic depression. The bright, optimistic atmosphere of the Taishô period gradually disappeared. Political party government was marred by corruption. The government and military, consequently, grew stronger, the parliament weaker. The advanced industrial sector became increasingly controlled by a few giant businesses, the zaibatsu. Moreover, Japan's international relations were disrupted by trade tensions and by growing international disapproval of Japan's activities in China. But success in competing with the European powers in East Asia strengthened the idea that Japan could, and should, further expand its influence on the Asian mainland by military force.
Japan's need for natural resources and the repeated rebuffs from the West to Japan's attempts to expand its power in Asia paved the way for militarists to rise to power. Insecurity in international relations allowed a right-wing militaristic faction to control first foreign, then domestic, policy. With the military greatly influencing the government, Japan began an aggressive expansion.
When Japan entered upon a hectic course of imperialist expansion in China, after 1931, the war-related industries, which used advanced technology, began to grow rapidly. As in the earlier period, industrial dualism continued; much industrial production was carried on in small- and medium-sized units still organized in the old way and using much hand labour. The gap between enterprises of this sort and the organized large-scale industries tended to widen front the 1920s onwards, especially in productivity and wage levels. However, the two sectors were not altogether separate and distinct. Large firms often found it economical to have parts and components manufactured by small sub-contracting firms; this reduced their overheads and gave flexibility when market demand was variable. Some small firms were able to buy up second-hand machinery cast off by the larger ones. Many were, in any case, producers of traditional articles and specialities for the home market and only needed simple machines such as sewing machines or lathes. Some cheap, often shoddily made, goods found their way onto the export market, giving Japanese products a bad reputation.
During the 1920s there were a series of problems for the Japanese economy. Exports fell off in the face of intensive trade competition and protectionism abroad, and, with the yen over-valued, did not exceed their 1919 peak for another ten years. Prices tended to fall, profits were squeezed and there were many bankruptcies. Big business responded by further rationalization, by price maintenance and by increased interest in foreign markets and colonial expansion. In 1927 there was a financial crisis and many banks collapsed, thus enabling a smaller number of the larger and sounder banks to secure a dominant position. In 1930-31 Japan was hit by the onset of the world economic depression with a sharp fall in prices and in exports. The overseas market for raw silk - for long a useful foreign exchange earner-contracted disastrously. Higher tariffs in the United States and European countries hit the export trade.
However, Japan was able to overcome these setbacks within a few years, becoming the only capitalist country to experience rapid growth despite the depression. The two main reasons for this were:
- In a period of worldwide falling prices and contracting trade, cheap Japanese exports of textiles and light manufactures successfully penetrated markets previously held by the older industrial countries, notably Britain, which were now high cost producers.
- From 1936 onwards, government orders for war materials stimulated the expansion of the heavy industries. Japanese capital was meanwhile active in promoting development. in the colonial empire, especially in industrializing the newly-acquired territory of Manchuria. This was facilitated by supplies of cheap labour, borrowed technology and a colonial expansionist policy which made it possible to carve out a protected market sphere in East Asia. This led to a demand for plant and equipment which encouraged further investment at home, while the colonies were also able to supply food and the raw materials of which the mother country was seriously short.
4.0 WAR AND THE GROWTH OF NATIONALISM
Until the 1930s Japan had pursued its military aims without clashing with the western powers. However, the other world powers could not remain unconcerned and a clash was probably inevitable. No doubt the more conservative elements in the ruling class in Tokyo were only reluctantly pushed into what was clearly a gamble by the militant nationalists and military adventurers. That they accepted expansion on the Asiatic mainland, knowing that this would meet with the disapproval of the Western powers, and embarked on the gamble, was not only a function of an internal power struggle; it also reflected the pressures on Japan of the world economic crisis and, indeed, of the pent-up contradictions of its development since the Meiji Restoration.
Industrialization from the 1930s to its surrender in 1945 has to be seen in the context of resurgent nationalism resulting in expansionist tendencies. The military, with its base in the countryside and the traditional ruling classes played a central role in the state and in the nation as a whole. At the same time, the industrialization of Japan enabled the military to operate from a new basis of power. An important part of this process was bound up with government military spending intended to keep Japan strong and this policy was welcomed by the zaibatsu. Patriotism and profits were able to go hand-in-hand while the hold of the military was strengthened. Once the economy was hit by the world crisis of the 1930s, following the difficulties of the previous decade, it was tempting for influential sections of the ruling class to seek a way out in the pursuit of Japan's manifest destiny in Asia for which the way had long been open. Further, imperialist expansion meant the risk of war with the United States and Britain; it was a war which, on sober calculation, Japan could hardly hope to win except by a speedy and successful first strike. Doubtless there were alternative courses, favoured by the more prudent, but opposition and dissent were stifled and suppressed under the authoritarian regime sanctioned by the emperor-system, itself a product of the Meiji Restoration.
Once the conflict had been begun by the attack on the US naval base in Pacific - Pearl Harbour - in December 1941, it was surprising that Japan did so well both on the battle fronts and in organizing her war effort. This was done by giving priority to the armed forces, both by increasing total output and drastically reducing civilian consumption. The main problem facing the planners, and in a sense this was what the war was all about, was dependence upon imported raw materials and fuel. The sea-lanes were Japan's vulnerable lifelines and once they were cut the economy could not survive. The initial successes, the over-running of much of the Pacific and the short-lived realization of the grandiose Greater East Asian Co-Prosperity Sphere encouraged the illusion that this could be averted.
When American industrial potential was turned to war production, Japan was revealed as a pygmy by comparison. At its peak, her armaments production was no more than one-tenth of that achieved in the United States. Once the military reverses cut off overseas sources of supply, industry was starved of raw materials and production slowed down. No plans had been made for a long war and arrangements for the allocation of scarce materials became increasingly chaotic. The war revealed the incomplete nature of Japan's industrialization. At least half the population was still employed in primary production. This limited the recruitment of labour to war industries and, despite this, calorific intake fell almost to subsistence level for a large part of the population. American bombing, and the final horror of the atomic bombs, further disrupted the economy and aggravated the hardships of the civilian population.
After the war, therefore, the Japanese economy was in shambles. There was the shortage of food and materials and a surge of inflation began. There had been some destruction of the industrial plant; more serious was the lack of raw materials and energy supplies and the fact that much industrial capacity had been turned towards war production so that a period of reconversion would be necessary before there could be a revival of the economy on a peace-time basis. Japanese business leaders were anxious to save what they could from the wreckage and saw their best course in cooperation with the Occupation authorities. American policy began with the assumption that there would have to be far-reaching reforms, including a major restructuring of the economy, to prevent further Japanese aggression. In the event, however, the defeat and Occupation represented a turning point in Japanese history almost on a par with the Meiji Restoration, clearing the way for the great surge in industrialization which was to elevate Japan into third rank among the economies of the world.
In a situation of general penury, the black market flourished. Instead of being self-sufficient in food, Japan became dependent upon American agricultural surpluses to meet basic needs. There could be no economic recovery, in any case, unless Industry could once again obtain the imported raw materials upon which it depended and until exports had recovered in order to pay for them. Economic recovery meant reinstatement in the world market.
5.0 POST WAR DEVELOPMENT OF THE JAPANESE ECONOMY
Scholars have advanced many theories to explain why Japan was able to grow so quickly and for so long. Much attention has been given to the role of the powerful central government bureaucracy in Japan's economic rise: civil servants in organizations like the Ministry of International Trade and Industry, it has been argued, worked closely with the business community to chart strategic plans for economic development and deftly guide the nation's industrial and financial advance.
What has been called Japan's "developmental state" thus quarterbacked Japan's high-speed growth through the judicious application of "industrial policy" to promote rising sectors (like automobiles), chart the decline of moribund ones (like mining), and encourage the export economy. Other observers have traced Japan's rapid growth to favorable international conditions (readily available technology and open access to international markets); some have emphasized Japanese trade policy (protection of the domestic market combined with aggressive export drives); and a few have suggested that Japan got a "free ride" to prosperity by relying on the United States for its military defense during the tense decades of the Cold War. Recently, more economists have tended to stress the importance of domestic consumption and rising living standards in Japan as crucial factors in propelling and sustaining Japan's almost twenty-year-long economic boom.
The high-growth era was characterized by noteworthy stability in Japanese politics and patterns of policymaking. In 1955, the two major conservative parties in Japan merged to form the Liberal Democratic Party (LDP), an entity often accused by its detractors of being neither very liberal nor very democratic. Crafting a political dynasty based on strong support in the countryside, ideological flexibility, and the enthusiastic promotion of economic growth, the LDP was an electoral powerhouse, claiming a majority in the Diet and a firm hold on the prime ministership from its founding until the early 1990s.
The dominance of the Liberal Democrats at the polls prompted many critics to question just how democratic postwar Japan actually was; moreover, many commentators have claimed that policymaking was actually shaped less by the democratic process than by a complex network of cozy backroom relationships among LDP politicians, powerful corporate leaders, and leading government bureaucrats. This informal coalition of elites, often termed the "iron triangle," was said to have been responsible for much of the top-level decision-making in the Japanese state after World War II. Skeptics, however, have noted that similar constellations of influential elites are hardly uncommon in the industrial democracies of the West; significantly, it seems that a majority of the Japanese people were content with the LDP and the "iron triangle" and particularly the political stability and economic prosperity they appeared to deliver-during the high-growth decades.
In 1951, Japan's GNP was US$14.2 billion, half of West Germany, 3x less than Britain, and a mere 4.2% of the US economy. By 1970, Japan had overtaken all European economies, and represented over 20% of the US's GNP. In 1975, it was double of the UK's, and 1980, it reached US$1040 billion, roughly 40% of the US's.
But sustaining this growth through the next three decades was added by many more factors.
First of all, Japan benefited from the American military protection, which spared the government from high defense spendings. The same happened in West Germany, and both nations experienced the most formidable economic growth in the postwar era. However, Japan’s increase outstripped that of every other nation in the world.
The yen was intentionally set to a very low rate in the 1950s. Japan was completely destroyed in 1945, its cities flattened and industry annihilated, while the US did not suffer any damages on their home land and had nothing to rebuild. It thus took Japan many years to recover its prewar level. Had the country ended the war intact, the economic "miracle" would not have happened. The same goes for Germany, which GNP stood at 68% of the UK's in 1951, while it had obviously been superior.
The Japanese economy continued to grow steadily, quintupling its size every decade. But the Japanese economic miracle didn't owe only to having to reconstruct the country and mobilising the entirety of the war's military spending, installations and energy into business. Although the economy was based on the American liberal system, the government boosted business by providing low interest loans to sectors designed for growth, and organized the economy to facilitate development as much as possible. For example, the MITI (Ministry of International Trade and Industry) pressured iron and steel producers to acquire the licence rights of a new Austrian oxygen furnace together, thus sharing the costs and benefits, while the logic of Anglo-saxon free-market would have had each company obtain the licence individually at much higher expenditure. Japanese enterprises borrowed massively from banks, which drew their funds from high households savings. Inflation made it easy for them to pay them back without difficulty. However, this bubble burst in 1990 leaving the banks with a lot of bad loans. This brought many to bankruptcy or need of financial support from the state.
Role played by the MITI: The Ministry of International Trade and Industry (Tsusho-sangyo-sho or MITI) was one of the most powerful agencies of the Government of Japan from 1949 till 2001. At the height of its influence, it effectively ran much of Japanese industrial policy, funding research and directing investment. In 2001, its role was taken over by the newly created Ministry of Economy, Trade and Industry (METI). MITI was created with the mission for coordinating international trade policy with other groups, such as the Bank of Japan, the Economic planning Agency, and the various commerce-related cabinet ministries. In 1949, Japan was recovering from the economic disaster of World War II.
With inflation rising and productivity failing to keep up, the government sought to revive the economy. MITI was made responsible not only in the areas of exports and imports but also for all domestic industries and businesses not specifically covered by other ministries in the areas of investment in plant and equipment, pollution control, energy and power, some aspects of foreign economic assistance, and consumer complaints. This span allowed MITI to integrate conflicting policies, such as those on pollution control and export competitiveness, to minimize damage to export industries. MITI served as an architect of Japanese industrial policy, an arbiter on industrial problems and disputes, and a regulator. A major objective of the ministry has been to strengthen the country's industrial base. It has not managed Japanese trade and industry along the lines of a centrally planned economy, but it has provided industries with administrative guidance and other direction, both formal and informal, on modernization, technology, investments in new plants and equipment, and domestic and foreign competition.
Throughout the 1970s, Japan had the world's third largest gross national product (GNP) - just behind the United States and Soviet Union - and ranked first among major industrial nations in 1990 in per capita GNP at US$23,801, up sharply from US$9,068 in 1980. After a mild economic slump in the mid-1980s, Japan's economy began a period of expansion in 1986 that continued until it again entered a recessionary period in 1992. Economic growth averaging 5% between 1987 and 1989 revived industries, such as steel and construction, which had been relatively dormant in the mid-1980s, and brought record salaries and employment. In 1992, however, Japan's real GNP growth slowed to 1.7%.
Nominal GNP of Five Major Nations, 1951-1980 (amounts in US$ billion)
Even industries such as automobiles and electronics that had experienced phenomenal growth in the 1980s entered a recessionary period in 1992. The domestic market for Japanese automobiles shrank at the same time that Japan's share of the United States' market declined. Foreign and domestic demand for Japanese electronics also declined, and Japan seemed on the way to losing its leadership in the world semiconductor market to the United States, Korea and Taiwan.
Unlike the economic booms of the 1960s and 1970s, when increasing exports played the key role in economic expansion, domestic demand propelled the Japanese economy in the late 1980s. This development involved fundamental economic restructuring, moving from dependence on exports to reliance on domestic demand. The boom that started in 1986 was generated by the decisions of companies to increase private plant and equipment spending and of consumers to go on a buying spree. Japan's imports grew at a faster rate than exports. Japanese postwar technological research was carried out for the sake of economic growth rather than military development. The growth in high-technology industries in the 1980s resulted from heightened domestic demand for high-technology products and for higher living, housing, and environmental standards; better health, medical, and welfare opportunities; better leisure-time facilities; and improved ways to accommodate a rapidly aging society. This reliance on domestic consumption also meant that consumption grew by only 2.2% in 1991 and at the same rate again in 1992.
During the 1980s, the Japanese economy shifted its emphasis away from primary and secondary activities (notably agriculture, manufacturing, and mining) to processing, with telecommunications and computers becoming increasingly vital. Information became an important resource and product, central to wealth and power. The rise of an information-based economy was led by major research in highly sophisticated technology, such as advanced computers. The selling and use of information became very beneficial to the economy. Tokyo became a major financial center, home of some of the world's major banks, financial firms, insurance companies, and the world's largest stock exchange, the Tokyo Securities and Stock Exchange. Even here, however, the recession took its toll. In 1992, the Nikkei 225 stock average began the year at 23,000 points, but fell to 14,000 points in mid-August before leveling off at 17,000 by the end of the year.
1989 Economic Bubble: In the decades following World War II, Japan implemented stringent tariffs and policies to encourage the people to save their income. With more money in banks, loans and credit became easier to obtain, and with Japan running large trade surpluses, the yen appreciated against foreign currencies. This allowed local companies to invest in capital resources much more easily than their competitors overseas, which reduced the price of Japanese-made goods and widened the trade surplus further. And, with the yen appreciating, financial assets became very lucrative.
With so much money readily available for investment, speculation was inevitable, particularly in the Tokyo Stock Exchange and the real estate market. The Nikkei stock index hit its all-time high on 29 December 1989 when it reached an intra-day high of 38,957.44 before closing at 38,915.87. The rates for housing, stocks, and bonds rose so much that at one point the government issued 100-year bonds. Additionally, banks granted increasingly risky loans.
At the height of the bubble, real estate values were extremely over-valued. Prices were highest in Tokyo's Ginza district in 1989, with choice properties fetching over US$1.5 million per square meter ($139,000 per square foot). Prices were only slightly less in other areas of Tokyo. By 2004, prime "A" property in Tokyo's financial districts had slumped and Tokyo's residential homes were a fraction of their peak, but still managed to be listed as the most expensive real estate in the world. Trillions were wiped out with the combined collapse of the Tokyo stock and real estate markets.
With Japan's economy driven by its high rates of reinvestment, this crash hit particularly hard. Investments were increasingly directed out of the country, and Japanese manufacturing firms lost some degree of their technological edge. As Japanese products became less competitive overseas, some people argue that the low consumption rate began to bear on the economy, causing a deflationary spiral.
The easily obtainable credit that had helped create and engorge the real-estate bubble continued to be a problem for several years to come, and as late as 1997, banks were still making loans that had a low guarantee of being repaid. Loan Officers and Investment staff had a hard time finding anything to invest in that would return a profit. Meanwhile, the extremely low interest rate offered for deposits, such as 0.1%, meant that ordinary Japanese savers were just as inclined to put their money under their beds as they were to put it in savings accounts. Correcting the credit problem became even more difficult as the government began to subsidize failing banks and businesses, creating many so-called "zombie businesses". Eventually a carry trade developed in which money was borrowed from Japan, invested for returns elsewhere and then the Japanese were paid back, with a nice profit for the trader.
The time after the bubble's collapse which occurred gradually rather than catastrophically, is known as the "lost decade or end of the 20th century" in Japan. The Nikkei 225 stock index eventually bottomed out at 7603.76 in April 2003, moved upward to a new peak of 18,138 in June 2007, before resuming a downward trend. The downward movement in the Nikkei is likely due to global as well as national economic problems.
Deflation from the 1990s to present: Deflation in Japan started in the early 1990s. On 19 March 2001, the Bank of Japan and the Japanese government tried to eliminate deflation in the economy by reducing interest rates (part of their 'quantitative easing' policy). Despite having interest rates down near zero for a long period of time, this strategy did not succeed. Once the near-zero interest rates failed to stop deflation, some economists, such as Paul Krugman, and some Japanese politicians spoke of deliberately causing (or at least creating the fear of) inflation. In July 2006, the zero-rate policy was ended. In 2008, the Japanese Central Bank still has the lowest interest rates in the developed world, deflation has still not been eliminated.
Systemic reasons for deflation in Japan can be said to include:
Fallen asset prices: There was a large price bubble in both equities and real estate in Japan in the 1980s (peaking in late 1989).
Insolvent companies: Banks lent to companies and individuals that invested in real estate. When real estate values dropped, many loans went unpaid. The banks could try to collect on the collateral (land), but due to reduced real estate values, this would not pay off the loan. Banks have delayed the decision to collect on the collateral, hoping asset prices would improve. These delays were allowed by national banking regulators. Some banks make even more loans to these companies that are used to service the debt they already have. This continuing process is known as maintaining an "unrealized loss", and until the assets are completely revalued and/or sold off (and the loss realized), it will continue to be a deflationary force in the economy.
Insolvent banks: Banks with a large percentage of their loans which are "non-performing" (loans for which payments are not being made), but have not yet written them off. These banks cannot lend more money until they increase their cash reserves to cover the bad loans. Thus the quantity of loans are reduced sooner and less funds are available for economic growth.
Fear of insolvent banks: Japanese people are afraid that banks will collapse so they prefer to buy gold or (United States or Japanese) Treasury bonds instead of saving their money in a bank account. People also save by owning real estate.
The Economist magazine suggested that improvements to bankruptcy law, land transfer law, and tax laws will aid Japan's economy. In October 2009 the Japanese government announced plans to increase tobacco and green taxes while reducing rates for small and medium sized companies, according to NHK.
In 2011, Japan under Yoshihiko Noda decided to consider joining the Trans-Pacific Strategic Economic Partnership.
6.0 CAUSES OF THE LONG-TERM RECESSION IN JAPAN
In the early 1990s, Japan’s real estate and stock market bubble burst and the economy went into a tailspin. Since the 1990s, Japan has suffered sluggish economic growth and recessions. This phenomenon is called “Japan’s Lost Decade. Japan’s growth rate during this period has been among the lowest of the major developed countries of the world. During 1995–2002, for example, the annualized growth rate of Japan’s real gross domestic product (GDP) averaged only 1.2%. This was lower than the eurozone average of 2.7%, and was less than the other Group of 7 countries: Canada (3.4%), France (2.3%), Germany (1.4%), Italy (1.8%), the United Kingdom (2.7%), and the United States (US) (3.2%).
Here is a list of various reasons that have contributed to the many decades of economic trouble that Japan has faced.
6.1 Cause # 1 - Aging Population
Japan has achieved the highest life expectancy in the world, but its retirement age is still 65 years of age. The graph shows that the working population (i.e., those aged between 15 and 64) is diminishing drastically while the elderly population (those aged 65 and older) is growing rapidly. The aging population and the diminishing workforce is one of the biggest causes of long-term recession in Japan.
On the other hand, Japan’s method for calculating wages is based on seniority. Seniority-based wage systems make it difficult for companies to hire elderly people. They are often forced to retire, even though many of them would like to continue working. Because of the aging population, social welfare costs have started to increase and currently one-third of government spending is allocated to this, while the government budget deficit is rising every year.
6.2 Cause # 2 - Monetary Transfers from Central to Local Governments
The graph shows expenditure from the general account budget of the Government of Japan in 2015. About 16% of total government spending is allocated to local governments, making it the second largest government expense after social security.
Local governments rely too heavily on central government transfers and do not make efforts to revitalize regional economies. In addition, a rigid distribution system within agriculture cooperatives has put farmers in a weak position, and they are unable to make innovations in agricultural production
6.3 Cause # 3 - Banking failures
In the 1980s, Japanese banks issued loans based on collateral. From 1991 onwards, land prices started to decline and banks began to accumulate bad loan assets. The number of banking failures started to increase immediately after the financial bubble burst, reaching a peak almost one decade later.
Before the bubble burst, there was no banking failure and assistance from the Deposit Insurance Corporation of Japan (DICJ), the financial system’s insuring organization, was almost at zero. When banks began to fail after the bubble burst, the DICJ began to raise financial assistance to help the failed banks. This assistance also peaked a decade after the bursting of the bubble.
Another obstacle in the banking system is the Basel capital requirements. Basel I regulations forced banks to hold 8% capital, regardless of economic conditions. Japanese banks started to reduce their loans to avoid a shortage of capital, which created a credit crunch, and it became difficult for SMEs and startup businesses to borrow money from banks.
The above graph shows the results of a survey conducted by the Bank of Japan investigating the difficulty for large firms and small and medium-sized enterprises to raise money from banks or from the capital markets. Data points below zero signify difficulty for companies in raising money. The figure shows that smaller enterprises find it harder to raise money than larger firms.
6.4 Cause # 4 - Excessive Contractionary Monetary Policy
Japanese monetary policy in the late 1980s was too easy and contributed to the development of an economic bubble. After the bubble burst, Japan’s monetary policy was over tightened, drastically reducing the lending capacity of Japanese banks.
The interest rate policy was less effective from 1990 to 1995 than it had been from 1982 to 1989.
The capital requirement rule of the Bank for International Settlements (BIS) discouraged Japanese banks from lending money to SMEs, startup businesses, and risky sectors.
During the period of economic boom, the increasing land prices pushed bank loans upward. Japanese banks were using land as collateral and the high land prices pushed up the value of the collateral, making the banks more willing to lend large quantities of money.
Japanese banks decided how to allocate their loans by looking at the behavior of other banks. Sumitomo Bank, for example, started to increase its loans during the economic bubble and many other banks followed suit.
6.5 Cause # 5 - Reduced Effectiveness of Fiscal Policy
Kiichi Miyazawa, Prime Minister of Japan from 1991 to 1993, implemented fiscal policy when the Japanese economy was slow to recover in the 1990s. He followed a Keynesian policy, hoping for a high growth period in Japan in which public investment would help boost the Japanese economy.
However, major highways and bridges had already been completed and investment in new infrastructure did not help the economy due to a decline in the multiplier for public investment. Public investment in Japan has tended to produce low stimulative effects on gross national product because of ineffective distribution.
The bulk of public investment has been concentrated in the countryside, and research shows that such investment has a much smaller impact on rural areas than on urban areas and that public investment in the agriculture sector has been much less effective than public investment in the industrial and service sectors.
The result of this increasing rural and agricultural bias in the allocation of public investment is that the multiplier of public investment declined sharply from about 2.5 to as low as 1. This shows that such public investment only increases budget deficits; it cannot bring about a recovery of the Japanese economy.
6.6 Cause # 6 - High Appreciation of the Yen in the Mid-1990s
A problem was the fluctuations in the dollar–yen exchange rate during 1990–2014. Appreciation of the yen in the mid–1990s caused Japanese manufacturing companies to relocate from Japan to other Asian countries. Wage increases also pushed Japanese companies abroad.
As a result, domestic production started to diminish. The graph on next page shows Japanese outward foreign direct investment to other Asian economies including the PRC; Hong Kong, China; India; and Indonesia from 1989 to 2004.
6.7 Cause # 7 - Banking Crisis of 1998
Japanese banks were in turmoil in the late 1990s. In total, 181 banks went bankrupt. Most banks that failed were small, or were credit cooperatives.
The main reasons for failure were: (i) too much concentration on lending to specific sectors (such as the construction and real estate sectors); (ii) increased stress placed on the lending of regional banks due to regional recessions; (iii) mismanagement and fraudulent lending; and (iv) failure in securities investment and a lack of investment knowledge.
The injection of capital into problem banks was regarded as a moral hazard in the 1990s. Many manufacturing companies opposed capital injections for banks since manufacturing industries were never rescued by the government. Capital injections were implemented in the 2000s, however, when Prime Minister Koizumi was in power.
6.8 Cause # 8 - Japan’s Ineffective Monetary Policy
Japan’s long-term recession is often explained as a liquidity trap. Much attention has been focused on monetary policy rather than structural issues, but the problem of the Japanese economy was in its vertical IS curve (Investments / Saving ratio = IS).
Private investment did not grow despite very low interest rates. Expected future rates of return were low and so hardly any new technological progress was made in Japan. Even though the central bank’s short-term interest rate was set to zero, depressed investment in Japan meant that the economy was not able to recover.
Because so much criticism was aimed at monetary policy instead of accelerating corporate restructuring, attempts to reduce idle capacity and start new investment through such restructuring was not pursued.
7.0 MAJOR CHALLENEGES AND ABENOMICS
However the Japanese economy today faces some major challenges. Japan creates new companies at half the rate of the United States; as a result, the number of companies is shrinking and Japan ranks last among 24 developed nations in its level of entrepreneurial activity. The country also needs corporate governance reforms, like stronger boards to force change at turgid huge companies.
And much like the United States, it needs better tax policy: fewer loopholes, lower rates on income and, down the road, as the economy recovers, more revenue to close gaping budget deficits. Even if the PM pursues his ideas vigorously, Japan will still face significant structural challenges. For example, despite a declining population, no one in Japan - essentially a closed society - is talking seriously about reforming exceptionally strict immigration laws. Nor do many expect meaningful changes in rigid labor policies.
Loan demand and business investment are also finally increasing. But Tokyo, which once seemed so dazzlingly modern, now feels far from cutting edge next to gleaming cities like Shanghai. A gloomy sensibility was particularly apparent this summer, when office lights were dimmed, temperatures turned up and strict office dress codes relaxed as Japan grappled with shrunken electricity supplies following the Fukushima nuclear incident.
COMMENTS