Abenomics under scrutiny

Beside the troubles with the fiscal consolidation from the expenditure side of the Euro area there is an even more dramatic development under way in Japan. Since the new government of Shinzō Abe took office the new economic policy termed Abenomics raised hopes that Japan would overcome its economic crisis. As the key problem the Abenomics addresses the issue of long-term deflation which took hold since the collapse of the financial market bubble in Japan in the early 1990s. But is this really the key problem of Japan?

Taking a closer look at the historical track record of Japanese deflation/inflation experiences since 1993 we find the following:[1]

The Japanese CPI fluctuated more or less around the zero line. Is this the shocking deflation many Keynesians always claim to bring the Japanese economy to its long-term stagnation? One could even say from these empirical findings that Japan experienced a nearly perfect era of price stability. Even a small negative decline would not be any cause of worrying. As long as this ultra-mild deflation does not exceed the productivity growth rate of the economy, this would be no cause of worrying. SO do those who claim that the Japanese economy suffers from excessive deflation do not know the empirical facts? Is it an ideological obsession with the Great Depression of 1929 which blindfold those who see in the Japanese deflation like e.g. Paul Krugman the major cause for the long-term stagnation of the Japanese economy?  Are there not structural impediments in the Japanese economy and excessive public deficits which have now already piled up beyond the 200% GDP-threshold, which hamper economics growth in Japan?

Since the great financial crisis in Japan in 1993 the Japanese government has run huge fiscal deficits which steadily led to higher debt-to-GDP-ratios. Currently the Japanese governments have run annual public deficits between 9 to 10 percent since 2009. See e.g. the most recent IMF Fiscal Monitor of April 2013, Table 1, p. 11. The impact of this major fiscal stimulus has been rather modest. Beside the short-term positive recovery in 2009 the growth of the Japanese economy did not significantly accelerated.[2]

Even the OECD in its latest forecast did not expect that Japan will do in the coming years. [3]

Only an increase in the inflation rate to 1.8% is predicted by the OECD for 2014. GDP growth is expected to slowdown from 1.6% in 2013 to 1.4% in 2014. The unemployment rate will be stable at about 4.1 to 4.2%. So with regard it is much ado about nothing.[4]

The open question however is, does the monetary policy of financing additional public spending will change this status quo forecast? The experiences from the past are not very promising. Trillions of public infrastructure investments ended up in building bridges to nowhere. At nearly zero nominal interest rates the private and social rates of return of this kind of investments have been negative. They have not paid off. May be that after the tsunami and meltdown of nuclear power plants in Fukushima these investments were necessary, but they just reestablished the status quo ante at best. All this did not improve the long-term competitiveness of the Japanese economy to bring it back on a higher growth path. Hayek always warned that excessive low interest rates encourage inefficient investments. i.e. malinvestments. The rate of return is based on the low nominal interest rates, which cannot prevail forever.

It is therefore no surprise that current monetary policy to raise the inflation rate in Japan has a negative impact on the refinancing of the Japanese government debt.[5]

At such a high level of public indebtedness even small increases in the refinancing costs endanger the sustainability of the financing of public debt. For private investors there is little reason to invest in Japanese government bonds, when the rate of return in real terms becomes negative. Therefore it could be no surprise that significant amount of liquidity went into stocks and other assets instead of buying government bonds. For foreign investors the devaluation of the Yen of about 25% during the last 10 months created a further obstacle. It is not the additional deficits financed by the Japanese central bank which matters but the larger amount of refinancing needed for existing debt which matures over time. If private investors flee Japanese government bonds the central bank has to monetize more and more public debt by the printing press. This makes it dubious if the central bank will be able to control inflation at a pre-announced target level. There is a high risk of overshooting.

It is no surprise taken an orthodox macroeconomic point of view that the short-term bonanza at the Japanese stock market has not lasted for long. Japanese stocks have to value not only from a short-term speculative perspective but as well on the long-term fundamental profitability of Japanese companies. These are constrained from two sides. Exports can only boom when the real exchange rate stays persistently below its purchasing power parity. However this is unlikely because other countries will retaliate against this kind of beggar-by-neighbor-policy. The growth of private domestic demand has to accelerate to take the Japanese economy on a higher growth path. This would only happen if a price-wage-spiral takes hold. However, rising wage cost might hamper the international price competitiveness of Japanese companies again driving down export demand. Furthermore the devaluation of the Yen leads to rising import prices for complementary goods as oil and gas since Japan depends at an even higher imports of this and other raw materials. This weakens the price competitiveness of Japanese companies as well. So it is a rather complex conundrum of positive and negative effects which finally define the net outcome.

The recent stock market crash of the Nikkei already shows that investors at home and abroad have become risk averse to the current policy strategy of Abenomics. It is no surprise that Kuroda, the head of the BoJ has started to lament about the monetary Trilemma. [6]

In open capital markets the central bank cannot control the domestic inflation rate and the exchange rate at the same time. Investors always could flee the unfavorable economic environment to go abroad for better opportunities. It might be a wrong perception that a combination of loose fiscal policy together with ultra-light monetary policy could bring back Japan on a higher growth path again. It might need much deeper structural reforms. See e.g.[7]

There is no silver bullet by simple macroeconomic policy designs. For long-term growth structural impediments have to be removed. Otherwise the current kick-start of Abenomics would end as a flash in the pan as others have done before.


22 Gedanken zu „Abenomics under scrutiny

  1. Pingback: Fatal policy failures in crisis countries to address necessary structural reforms | My Blog

  2. Jetzt sollen Unternehmenssteuersenkungen die Wirtschaft wieder ankurbeln? Das ist doch alles alter Wein in neuen Schläuchen.



    same, same not different

    Nur eines ist sicher. Das Staatsdefizit wird weiter wachsen. Die Unternehmen entziehen sich immer mehr der Besteuerung. Ob sie deswegen in Japan investieren ist mehr als ungewiss. Die Gleichung niedrigere Unternehmenssteuern = höhere Gewinne = steigende Investitionen geht nicht auf.

    Das ist Klientelpoltik vom Feinsten.

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