Trumpenomics 101?

As others have pointed out, orthodox Republican economic policies are now a thing of the past, although it’s far from clear what will replace it.

The recent Republican tax cuts, combined with yesterday’s deal to avert another government shutdown, will increase fiscal deficits significantly, providing a fiscal stimulus when none is needed (although much of the additional domestic spending is on important programs.) Perhaps the clearest way to see what is happening is to look at the US cyclically-adjusted general government deficit. This measure covers all levels of government and strips out the impact of growth on the deficit. (So, for example, a large fiscal deficit during a deep recession, such as in 2008-10 would look better in a cyclically-adjusted sense.) By this measure, the deficit averaged 8 1/2 percent of GDP during the post-crisis years of 2009-11 (IMF Fiscal Monitor) before declining steadily, reaching 3 1/2 percent of GDP in 2015. Now, the same measure of the fiscal deficit looks to be around 6 1/2 percent over the next two years (based on some admittedly rough calculations). This is the same level as in 2012, when economic growth was still well below trend and unemployment was roughly double the current rate. An obvious question for Republicans is why this deficit level was grounds for hand-wringing during the depths of the recession but is fine now. (I still recall candidate McCain calling for a balanced budget in the midst of the global financial crisis in 2008.)

Significantly higher deficits may mean at least temporarily higher growth but will have other important effects as well. Interest rates will likely rise faster than they would have. And the dollar should strengthen. Higher fiscal deficits will require more financing, a large part of which will come from abroad, notably from China and Japan. And trade deficits are almost sure to rise as well.

In this context, There are a number of interesting policy issues ahead, including:

  •  Where does the much larger structural deficit leave the idea of a large-scale program to improve US infrastructure? Probably in a big pothole somewhere.
  • When will Paul Ryan “discover” the new larger deficits and renew efforts to  cut Medicaid, Medicare and other social spending?
  • What will Trump do when he sees the US trade deficit, and key bilateral deficits, inevitably rising? Are we more likely to see a true global trade war? Or will he simply attack the messenger and declare “fake news”?

A faster pace of rate hikes in the US and a stronger dollar will also have an impact, naturally, on the rest of the world. Perhaps most notably, these developments can substantially increase the debt burden for emerging market governments and corporates with, in a worst case scenario, implications for  global financial markets.



A little preventative fact-checking

Ahead of this evening’s State of the Union address by President Trump, were he is expected to congratulate himself on engineering a turnaround in the US economy, I thought it would be useful to present just a few data points:

Employment growth in the US in 2016 (under President Obama) totaled 2.25 million. In 2017, under President Trump, the figure was 2.04 million.

Real wage growth (monthly average) in 2016 was an almost non-existent .007 percent. In 2017, the average monthly real wage increase was .003 percent.

Labor force participation at end-2016 stood at a troublingly low 62.7 percent. After a year under President Trump the corresponding figure is….62.7 percent.

The US stock market surged in 2017, rising by 19.5 percent. That compares to (in US dollar terms) 21.6 percent for all stock markets, 34.3 percent for emerging markets, 25.3 percent for the euro area, and 21.8 percent for Japan.

A few straightforward conclusions from this:

  • The US economy in 2017 was essentially the same economy as it was in 2016. Same strengths, same weaknesses.
  • The US is participating in a global cyclical upswing. Most countries and all regions are experiencing strong macroeconomic results.
  • There does not appear to be any positive Trump effect. Macro results are good, but no better than before.


Imaging future Japans

It is well-understood by now that Japan’s population is both shrinking and aging, with potentially wide-ranging and largely negative economic effects–most notably lower savings and growth, ano higher government spending (on health, pensions and long-term care), deficits and debt. It is also clear that many other countries will soon find themselves in similar situations, incluring some, notably China, that will do so at significantly lower levels of per capital income than Japan. Thus, how Japan deals with its demographic problems should be of significant interest to others around the world.

The Abe administration is largely seeking to offset declines in the labor force by removing barriers to higher labor force participation by women and older people, two groups that participate at lower rates than in many other advanced economies. Immigration is largely seen as a non-starter. And some nod is given to the potential for technology to play a larger role.

But with Japan’s population projected to shrink from 127 million today to 88 million by 2065 (and just 51 million by 2115), with those 65 and over accounting for nearly 40 percent of the population, it would seem a fairly dramatic reimagining of Japanese society may be eventually needed.

While discussions around Japan’s future often focus on its strong cultural influences and the limits that places on plausible changes (e.g. on the acceptance of sizable immigration or deep changes on the role of women in society) it’s useful to keep in mind that Japan has managed to reinvent itself on several occasions–most notably after the forced opening of the country in the 1860s and the physical and institutional reconstruction that took place after World War II. It both cases, Japan was able to adapt quickly and to do so largely based on explicit policy decisions.

In this context, it may be useful–or at least interesting–to think of some fundamental changes we may see in Japan in the coming decades, that is, some plausible (and not mutually exclusive) “future Japans”:

  • A  worker-friendly Japan. To limit the decline in the labor force and raise productivity enough to matter, the world of work in Japan will need to change dramatically. Factors that limit or disincentivize labor force participation by women and older workers need to be addressed. But, more flexibility is needed in work schedules and modes (e.g. work at home), better work-life balance, less reliance on lifetime employment and seniority-based wages with a corresponding strengthening of social safety nets and job training, and a move to equal opportunity and pay. Early steps are not  confidence-building. Recent efforts to place limits on overtime concluded with such a limit–100 hours per month! Meanwhile, the first “premium Friday”–a nationwide effort to get workers to leave their offices early one Friday per month–did not see many takers. Obviously, much more needs to be done, and government should take the lead, at least to generate demonstration effects.
  • A cyborg Japan. Japan is already among the global leaders in the use of robots, drones and other labor-saving technologies, not just in manufacturing, but also in sectors as varied as child and elder care and construction (see chart from the Financial Times, below). But much more may be needed. The situation in Japan is still quite different from many other advanced economies, where robots raise concerns about job loss. Rather, with massive labor shortages looming, there may eventually be little political resistance to moving further long this path–in particular if immigration remains largely off the table.


  • A more global Japan. Another way Japan can deal with a shrinking workforce would be to make greater use of workers elsewhere. In particular, we are likely to see the trend of outsourcing (see chart from the latest IMF staff report, below) accelerating further. As with tech aolutions, some of the angst about the hollowing out of manufacturing sectors may be softened by the lack of workers willing and able to fill those jobs domestically, especially if Japan manages to keep the highest value-added activities within the country.


  • A diverse Japan. Most observers in and outside of Japan view as highly unlikely the possibility of Japan increasing in a significant way, its reliance on foreign workers. The stock of foreign workers remains tiny, at less than 1 million, with a significant chunk of that being foreign students who work part-time. But it’s worth noting that recent public opinion surveys are not entirely negative, with about half the respondents supporting the acceptance of immigrants “who wish to settle down in Japan ( see chart). In the same surveys, younger Japanese appear significantly more open to foreigners. Might views eventually move further in this direction as labor shortages and fiscal deficits become more severe? If Japan does choose to go down this route, it would likely need to be accompanied by changes in many rules regarding foreign residents, education, including language education, and notions of citizenship. Even what it means to be Japanese will be questioned.


In reality, all of these Japans may need to become reality. Some can substitute for others–e.g. robots or foreign workers can help fill labor shortages–where others can be complements–a Japan more open to foreigners may also help Japan successfully invest in other countries. And these changes can have wide-ranging effects, both good and bad–for example with regard to income inequality–which may be difficult to predict well in advance.


Trump and Japan: 1980s Redux?


Its unfair…(that Japan does) things to us that make it impossible to see cars in Japan, and yet, they sell cars into us and they come in by like the hundreds of thousands on the biggest ships I’ve ever seen.” Donald Trump, January 2017

“Try as he may, Abe can’t convince Japan’s 126 million people to buy American cars…” William Pesek, Barron’s Asia, February 2017.”

While Japan has not approached China’s status as a Trump trade bogeyman, it has certainly come in for its share of criticism.

The President has called out Japan’s interventionist exchange rate policy, despite the fact that Japan has not intervened in the foreign exchange markets for number of years. A potentially more meaningful critique of the yen could be made, based on continued enormous monetary accommodation by the Bank of Japan, and we may see this get more play if, as expected, US and Japan interest rate policies continue to diverge.

At the same time, Trump has called out Toyota and other Japanese corporates for not building “enough” of the products they sell in the US in the US. However, Japan has increasingly outsourced its manufacturing to the US and others, to the point that, for example, Honda is now a net exporter of cars from the US. It should be noted as well that efforts  to ensure that those that manufacture in the US also buy parts within the US (or pay punitive tariffs) will serve to make US production more costly and less attractive to Japanese and other foreign investors.

Finally, as quoted above, Trump has alluded to still-to-be-spelled-out unfair trade practices by Japan. While tariffs can’t be the main problem–for most products Japan’s tariff rates are similar to those of the US and other WTO members–there are other practices that straddle a line between differences in culture, consumer preferences,  and regulatory environments. While some practices may be construed as protectionist, its also clear that US industries would need to do a better job of making product attractive to Japan. For example, building cars with the steering wheel on the right side would be a good start!

Prime Minister Abe has made a major effort to engage President Trump early and often, meeting before the inauguration and then again shortly afterward. Trump appears to have reciprocated at least superficially, including by spending a golfing weekend with the Prime Minster and his wife. There is a sense that Abe may have been clever in providing Abe with “tweetable” successes, in particular with plans for increasing jobs at Toyota and other companies, even if there is little actually additional in any of these promises.

Nevertheless, we should not assume that all is, and will remain, well between the two countries. Closing the trade and/or current account deficit appears to be a goal of at least part of the Trump Administration. This will likely prove difficult, as external imbalances reflect differences between national savings and investment. With large infrastructure spending and rising fiscal deficits likely in the coming years, the pressures will be for a rising–not falling–trade deficit. Once Trump suffers a defeat at the hands of math, it is likely he will double down on claims of unfair trade and exchange rate practices, and quite possible that Japan will be caught up in all that.

How might this all turn out?  A look at the trade frictions of the 1980s may provide some clues. At that time, the US had a sizable bilateral trade deficit with Japan while Japan ran large current account and trade surpluses with the world. Again, this largely reflected macro developments–Japan was still in a demographic sweet spot, keeping its savings high, while the US saved little and was experiencing growing fiscal imbalances under the Reagan tax cuts. (More recently, Japan has run global trade deficits or small surpluses, with positive current account balances reflecting mainly net income from previous investments in assets abroad, notably in the US.) But that did not stop either angry demonstrations (such as that shown in the photo above) or efforts by the US and EU to seek redress. In the end, the efforts took several forms:

  • Restrain yourself. Japan agreed to a series of voluntary export ceilings from the mid-1970s through the mid-1990s on a wide range of products, including textiles, steel, TVs and cars. This can be seen as a result that served the political purposes of both sides–Japan headed off more draconian steps while the US/EU could be seen as responding to domestic interests without turning away from essentially free trade. It is unlikely that these restraints had much impact on bilateral trade–such limits can be easily circumvented e.g. by moving production away from Japan or moving toward higher quality/cost products–but that was perhaps not the point.
  • Increasing access to Japanese markets. Trade negotiations later focused on increasing US access to Japanese markets by removing perceived non-tariff barriers. Again, it appears that this did not decisively change trade dynamics, and it is notable that the TPP, which could have increased US presence in Japan’s services sector, has been killed by the new Administration.
  • Realignment of exchange rates.  The Plaza Accord of 1985 looked to coordinated forex intervention to reduce current account imbalances. Any return to such a scheme would appear extremely unlikely at this stage. In any case, a weak yen (to the extent that it is actually below its unknowable long-term equilibrium) is more a reflection of Japan’s monetary policy. Would the global economy benefit from a sustained rise in Japanese interest rates? That is debatable to say the least.

What we may see instead is a Japanese effort, if pushed, to create something analogous to the voluntary export restraints of its past, but in the sphere of FDI in the US. As before, these would likely have little real impact and would simply codify plans already in train or else represent mutually beneficial agreements, such as Japanese participation in a US infrastructure push. In any case, with Japan’s population declining and labor shortages emerging across a range of industries, further outsourcing–including to the US–is very likely in the cards.



Trump and Asia

Allow me to add a few lines to the online explosion of views on the meanings of a Trump Presidency. I focus here on implications for Asia, the world’s largest and fastest-growing region, and its relationship to the US.

It is difficult to say much concrete on this issue since–as in so many other areas–the intentions and capabilities of a Trump administration are still unknown. Trump has spoken a fair bit on Asia, but whether that adds up to a coherent view is another matter. Still, a few observations are possible:

Mr. Trump has spoken on numerous occasions about the role of China (and Japan) in the decline of US manufacturing employment. There is evidence (see, e.g. papers by David Autor and colleagues) that increased competition from China has caused declines in employment and wages, and that labor market adjustment can be painfully slow. Nevertheless, Trump’s focus seems misplaced and the notion that a sharp increase in tariffs is a solution seems misguided.

  • China’s growth model is rapidly changing and, with wages and innovation rising, it is no longer the dominant player in low-cost manufacturing it once was. If the idea is to use tariffs to protect American manufacturing jobs, they would need to be applied much more widely to cover countries like Vietnam, Cambodia and Bangladesh. Is that a direction we would want to go? In any case, isn’t what could be done limited by US membership in the WTO.
  • Tariff hikes will surely be met by similar increases against US exports, harming exactly those sectors of the economy where the US has a competitive advantage and which drive domestic growth. Such a trade war would also potentially lead to a sharp slowdown in global growth, rebounding onto the US economy.
  • The notion that China is manipulating its exchange rate to have an unfair trade advantage is also several years out of date. These days, China is manipulating its exchange rate, but this time to keep the renminbi from rapidly depreciating. Does a Trump administration want an end to that? There seems little support foor the idea that the RNB is now fundamentally misaligned
  • Much more attention should be paid (and should have been paid under past administrations) to ensuring that US workers can compete successfully in high-skilled manufacturing and services. Infrastructure is part of that story, as is improved health and education. It seems doubtful that any of these will be the focus of the Republican-controlled Congress.

An emerging issue regarding China is its rapidly growing foreign direct investment in advanced economies. Germany, the UK and Australia are all seeing backlashes against China’s purchases of domestic firms, especially by SOEs and in high-tech areas. It seems likely that similar issues will arise during the next four years, and one can imagine that a Trump administration will take a hard line against such purchases, especially since he would be uninterested in easing the path for US FDI in China.

More generally, we are likely to see the US role in Asia decline over the next four years. The TPP is dead (it was anyway on life support). And, as the Singaporeans and others have noted recently, this is seen as a sign that he US is an unreliable partner. The rise of Trump is likely to strengthen that view exponentially. Countries such as Malaysia and the Philippines are already looking increasingly toward China and such moves could quickly pick up speed. Will Japan look to step in more forcefully to fill an emerging void?

A Trump administration will also likely take a disinterested, or antagonistic, stance toward global economic institutions like the IMF and World Bank. This may create space for a greater role for China and other emerging markets, while decreasing the overall effectiveness of these institutions. Trump is also unlikely to participate in new China-led IFIs, including the Asian Infrastructure investment Bank.

On the other hand, a Trump administration is likely to care far less than President Obama about human rights issues in China, drug wars in the Philippines, or high-level corruption in Malaysia. Whatever one thinks of this stance more broadly, it does suggest that deal-making may still be possible. How many Trump hotels can Asia use?

There are other critical issues outside the realm of economics, that I will leave for others more expert than I am. For example, the notion floated by Trump, of a nuclear South Korea and Japan would have complex and far-reaching implications, which are unpleasant contemplate.

Recalibrating Abenomics

Is it possible that the economic policy debate in Japan is being distorted by bad data?

A recent article by Robin Harding in the Financial Times (“Japan revamps GDP numbers over accuracy fears,” September 30)

suggests that growth in Japan since the Global Financial Crisis may be significantly higher than previously believed. Perhaps most notably, an experimental data series produced the the Bank of Japan suggests that the Japanese economy expanded by 2.4 percent in 2014, following the rise in the country’s consumption tax from 5 to 8 percent, rather than contracting as indicated by official data.

If this were true, several implications would emerge. First, Abenomics may be working better than any of us imagined. This would at least be broadly consistent with the fact that the labor market is extremely tight, with labor shortages emerging in a number of sectors, and that tax revenues and corporate profits have been sharply rising.

Second, growth in Japan may be considerably above potential (although estimates of potential would also need to be re-estimated for consistency with actual new growth estimates). If that was in fact the case, then the view expressed by many that the first increase in the consumption tax in 2014 wold need to be reconsidered, as would the wisdom of failing to implement the planned second hike last year and the planned large fiscal stimulus recently proposed by the Abe administration.

At the same time, signing on to these experimental data would only raise additional questions about the failure of prices to rise substantially toward the BoJ goal of 2 percent. Why would massive monetary accommodation contribute to strong growth but not to significantly higher inflation? While the recent yen appreciation and depressed energy prices play an important role here, even core inflation is currently barely above zero.

Of course, there is no reason to assume that the BoJ estimates are the right ones. But there are reasons to believe that the official estimates are problematic, including a falling response rate and some apparent inconsistencies with other data. The BoJ estimates are based on tax return data which are more comprehensive but, unfortunately, available only with a one-year lag.

Japan: Labor shortages and changing attitudes

It’s well know that Japan is facing demographic trends that are challenging beyond any country’s previous experience. The aging and shrinking of the Japanese population have contributed in a major way to slower growth Andy larger fiscal deficits over the last two decades. More recently, labor shortages have emerged in selected industries, including construction and retail services. Despite this, Japan has taken a decidedly negative view of immigration.

Is this changing, at least a little?

It appears that the Abe administration is pursuing a “stealth” immigration program, with the number of foreign workers in the country set to top one million for the first time in 2016. These workers are typically in the country on short-term arrangements, including “training” programs ( which often provides little training and have raised concerns over poor treatment), and the idea of allowing permanent residents or a path to citizenship remains quite, well, foreign. Nevertheless, with policy-makers clearly aware of the need to attract significant numbers of foreign workers into the future, the possibility of offering longer and more attractive would seem to be in the cards.

There are hints as well that attitudes toward what it means to be Japanese may also have begun to shift. As one small piece of evidence, the last two Miss Japan beauty contests winners have been of mixed racial/ethnic make-up, a development which would have been unthinkable in the past. There may be a generational change taking place in Japanese attitudes.

The other major response to a shrinking workforce has been the forts undertaken in recent years to eliminate workplace discrimination and encourage female labor force participation. While Japan remains well behind most other advanced economies on these issues, there are again some signs of progress. For instance, economy-wide increase in labor force participation in the last few years has been led by women and policies to eliminate tax- and pension-related disincentives for female participation may soon be lifted.

Also, an extremely casual and non-scientific survey of Japanese television and films suggest and increased awareness of the problems that women confront in the workplace. A string of recent Japanese dramas, with names like “Age Harrassment” and “Black President” (this refers to presidents of companies with poor work environments, and is not a racial allusion) show hard-working and effective female employees stymied by sexist attitudes among their largely male managers. Perhaps we are seeing the start of some important attitudinal shifts in this area as well?

Finally, women have taken a number of extremely high political positions in recent months–including as Governor of Tokyo, Ministry of Defense and the head of the main opposition party. (The last of these, Renho, also has  one parent from Taiwan and, until recently continued it hold her Taiwan passport–both of which may have been “disqualifying” just a few years ago.) These three women are perhaps the three leading candidates to serve as the next Japanese Prime Minister which would serve both as a sign of continuing change and as an impetus for furthering progress.

Japan: Risk Off?

The Global Financial Crisis reminded us all about the potentially enormous risks of excessive risk taking. However, for several decades now, Japan has struggled against the opposite problem, namely an excess of risk aversion across its economy. And this risk aversion has created very high barriers to efforts to restore economic vitality to the country.

A recent Financial Times article highlights one example of such barriers ( Japan’s tech cannibalism saps Abenomics, July 5, 2016). The long period of weak growth and off-and-on deflation have led many Japanese businesses to focus intensely on cost-saving rather than expansion or broader forms of innovation. Reflecting this, many have made do with old information technologies and equipment. The continued lack of interest in new investment has helped stymie the government’s efforts to move to a higher growth path.

But the issue is a much more general one. Following the bursting of Japan’s enormous asset bubble in the early 1990s, a period of deleveraging by corporates and households, and a caution by financial institutions were to be expected, and were needed.

But the lessons of the Lost Decades appear to have been over-learned. Over the last several twenty or so years, Japanese consumers have become cautious and price-sensitive to the extreme. Large corporates have continued to amass large savings, with investment and wage hikes for workers remaining weak. And financial institutions have become satisfied with assets with a very low–or even negative–return.

In this context, Abenomics can be seen as an unprecedented effort to leap from a low-growth deflationary equilibrium to a new equilibrium characterized by higher growth and inflation and, in parallel, more risk-taking by businesses, consumers, and the financial sector. This, in turn, would require confidence in Japan’s growth prospects and economic policies which, in turn, would require a firing of all three “arrows” of Abenomics–monetary and fiscal stimulus and a new growth strategy (to be followed by public debt reduction).

But after some initial success, Abenomics appears stalled. There are a number of reasons for this, including an insufficiently ambitious set of structural reforms and a less-than-stellar global economic environment . But one important factor is that the forces of risk aversion have proved much more difficult to overcome than anticipated.

Is Japan actually more risk averse than other countries? This is a difficult  proposition to prove, but there is at least some evidence that it is.

  • Nearly three-fourths of Japanese describe themselves as risk-averse, placing them near the top of a 2008 study of 51 countries by Stockholm-based World Values Survey.
  • According to the Global Entrepreneurship Monitor, fewer than 4 percent of working-age Japanese intend to start a business within three years, third-lowest among 54 countries surveyed.
  • Even in the sports world, Japanese play it safe: professional baseball teams in Japan bunt twice as often as Major League teams in North America.

Some of this likely reflects cultural norms, but it is supported by unhappy experience and economic institutions—which themselves may reflect underlying norms. Twenty years of deflation in Japan have likely strengthened already cautious attitudes toward risk. The most recent “coming of age” cohort—those turning twenty years old—have little or no experience with rising prices or incomes, and average nominal monthly earnings are lower today than at their birth. Together with the growth in non-regular employment, this has led to fairly extreme cautiousness on the part of young people in Japan. Machiko Ozawa, a labor economics professor at Japan Women’s University puts it this way: “Within society the young generation should be risk-taking and innovative. In Japan, they are just afraid.”

Institutions also play a role. Bankruptcy laws have historically impled an extremely painful process for the debtors, making second chances rare, and underpinning the natural risk aversion of the population. This, in turn, has contributed to an SME sector with low levels of both entry and exit as well as low levels of productivity growth in the services sector.

Abenomics always had a sizable psychological element to it. People needed to feel it would work before the would take actions that would bring success about. The super-majority in parliament achieved by the government at the start of the process, together with an extremely successful PR campaign (which economist is unfamiliar with “Abenomics” or its “arrows”?) provided hope that “this time would be different.”

But failure to follow through with fundamental reforms, including to labor markets, immigration and regulation (what ever happened to special economic zones?) have contributed to deflate expectations, if not process. Continued macroeconomic support may well be justified but without a convincing case that Japan’s growth policies are more than just that, risk aversion may keep Japan spinning its wheels.










Showing a little flexibility?

In the short time since I began blogging, I seem to have focused entirely on Japan, and largely on issues related to labor markets. This was not my original intention, but for now, let me add one more piece on this theme.

There have been a number of articles in recent months along the lines that ‘Womenomics’ is failing in Japan and, specifically that targets set in this area by the Abe administration will not be met ( Many of these pieces make excellent points, and commitments by the government need to  be monitored closely. At the same time, we should perhaps not be surprised that changes in this area may not come as quickly as many of us would have liked.

Still, data in the last several years do offer reason for at least cautious optimism. First, the rise in overall labor force participation in Japan has been driven for the last several years by women. At the same time, the well-known “M-shaped” profile of female labor force participation in Japan is becoming less pronounced, suggesting that the pattern of women leaving the labor force for child-rearing, never to return, is being challenged (see Figures below, courtesy of Chie Aoyagi).

And in the last several days, there are some tentative signs thatJapanese employers are increasingly open to the sorts of flexible work environments that can make labor force participation by both women and men easier, including by allowing families to care for children and the rapidly-increasing elderly population while maintaining careers. Toyota recently announced ( a plan to allow around 20 percent of its workforce almost unlimited work from home. Of course, Toyota is just one company, but its not just any company, so others may well follow. Similarly, the central government announced  ( that workers will be encouraged to work more flexibly during the summer and to leave the office by 5:00 pm. (Admittedly, the fact that Tokyo’s Kasumigaseki district will experience “lights out” only at 8:00 pm makes one a bit skeptical and I can’t shake images of my Ministry of Finance friends working late into the night by flashlight!)

Can it be that the tightening labor market of the last several years and the longer-term decline in the Japanese labor force are finally beginning to push the public and private sectors to make changes to ease “work-life balance” and raise worker participation and productivity? And what sorts of broader social changes will a shrinking and aging population bring about? As usual, more questions than answers…




The half-life of institutions

I’m continuing my travels back to the days when Japan’s economy was the envy of all. This time, I’ve been reading a 1979 best-seller, “Japan as Number 1,” by Harvard Professor Ezra Vogel. Not everyone’s idea of a beach read, I know, but I’ve found it interesting from a number of perspectives, most notably for the view it provides on shifting views of what makes for good political and economic institutions.

Vogel was writing at a time when Japan’s economic success was viewed in the US with a mix of fascination and alarm. What’s fascinating is that many of the characteristics seen as critical to Japan’s success in 1979 are nearly identical to those pointed to as holding Japan back now:

* A lifetime employment model was seen as providing incentives for on-the-job training while strengthening worker loyalty, both raising productivity.

* A strong nexus among big business, banks, and government. Close links between firms and banks assured stable financing, while government–led by the Ministry of Industry and Trade (MITI)–implemented a sort of “industrial policy lite.” This was viewed as generating a more rational industrial structure and aiding in Japan’s competitiveness.

* Limited shareholder pressure. The relative lack of equity financing allowed firms to eschew a focus on short-term profit-making and to take long-term strategic positions, including by investing in new plant and equipment and R&D.

* Political stability. Japan’s politics was (as today) dominated by the conservative LDP. A pipeline of Prime Ministers was developed well in advance, while an elite bureaucracy exerted significant control over policy, even as political leadership changed. It is argued that this, again, allowed a more rational and long-term approach to policy-making.

* Decision-making by consensus. More than simple “splitting the difference” compromise, the need for broad societal agreement was baked into policy design and supported by formal and informal participation by key interest groups–what we now disparage as “special interests.”

The overall view one gets is of a hyper-rational system, making use of information from a broad range of sources to bring about rapid and equitable growth with economic security. And who could really argue with the results? Over the 30 or so years following the end of World War II Japan created from the rubble a wealthy, highly educated and long-lived society that, in many ways, was Number 1.

What went wrong? Much has been written about the enormous equity and real estate bubble, the bursting of which led to the “Lost decades” beginning in 1992. And it is well-known that the historically unprecedented aging and shrinking of Japan’s population is weighing down economic growth and contributing to an enormous debt burden.

But what about Japan’s institutions? The highly praised lifetime employment model now represents a bit more than half of a dual labor market, with a large and growing group of non-regular worker, reform of which is seen as key to reviving growth. The close and complex relationship among large companies, banks and government is seen to have contributed to a delayed response to the financial difficulties of the 1990s. Corporate governance is a current focus of reform in Japan, with firms criticized for insufficient attention to efficiency and shareholder returns. And political stability and consensus decision-making is seen as standing in the way of much needed reform.

Why, in Japan’s case, did good institutions “go bad”? Were they simply overwhelmed by economic and demographic shocks? Were they optimal for long-run planning but less nimble in response to risks? Or were they designed for a period of economic catch-up but became less effective as society evolved and social cohesion declined? Do Japan’s institutions need tweaking or a major overhaul?

Answers to these questions are important not just for Japan, but for other Asian economies that borrowed at least pieces of the Japanese economic model in the 1979s and have experienced their own successes over a number of decades. I’m thinking here of Korea, which has had its own economic miracle but is now questioning the sustainability of its economic model. But other “Asian tigers” as well as China, may be wondering whether new institutions and policy frameworks are in order.