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Sunday, June 01, 2003

Japan: The Next Big Success Story?

Joerg is asking awkward questions. What is happening in Japan? But not the normal, nice conventional questions. Joerg has the temerity to ask whether Japan is really so bad as everyone is saying. I'll let him explain:As you know, I disagree with your determined pessimism regarding Japan.

Recently, I came across an antiquarian economic history of Germany - more than a hundred years old. It contained a passage that compared Germany´s output statistics to, among others, the US and Russia. The author commented on the future prospects of those three countries and Britain. What really caught my attention: he claimed that the US had reached its zenith and that the next big success story would be Russia. Reason given: the extended deflation the US had gone through! Remember your "avalanching rice pile" post? I then checked US and Japanese data for the last few years: Since early 2000, Japanese real private-sector GNP has risen 3.5% overall. The per-capita gain amounted to 2.9%. The annual rate averaged to 0.9% - not exactly constituting overwhelming growth, but still qualifying as a substantial advance. On the other hand, U.S. real private-sector GNP increased by an almost identical 3.6% between 1999 and 2002. However, since the US population rose four to five times faster than in immigration-adverse Japan, income per head in the U.S. barely grew at all over the period.

Now all of this is going to open a nice can of worms, so let's do it. Firstly Joerg is raising some important points. One of them is about the Japanese use and misuse of statistics. Now Joerg is quite right to note that economics is, in one sense, the pursuit of war by other means. It is important to remember that following Pearl Harbour, and all its consequneces, there has been a tacit understanding that has governed all US-Japan relations: Japan will never risk a frontal confrontation. So things have to be done another way. This is Joerg's point about the Japanese data, whereas data in many countries has a tendency to downwards revisions, the Japanese data tends to be revised up. So as not to offend, you understand.

Now I would make two points. I am sure Joerg has a point, Japan is 'enjoying' its ill health. It is a lot easier to explain an excessively bad economic performance to the US than it is to explain an excessively good one. But I am equally sure that 'measurement problems' are more acute in Japan than they are in the US or Europe. Japan is not only 'risk averse', it is also 'information averse' (everyone really should read Karel van Wolferen ). So the tricky stats argument cuts both ways, and it is difficult to draw any decisive conclusions here.

Now for the middle argument. One of the points about deflation is, of course, that nominal prices fall. This is something of a curse, since we are all accustomed to deflating inflated nominal prices, and it really is a switch of mindset. The point is you need to add the rate of deflation to the nominal GDP numbers to see what is really happening. Indeed (leaving aside deflation as a problem) shrinking nominal GDP in Japan and a rising yen are pretty much compatible as a way of maintaining relative global GDP shares. I said leaving aside deflation as a problem, since of course the rising currency means there is no change in the deflation process. Having said this Joerg is absolutley right in pointing out that the Japanese performance is not half as bad as is sometimes suggested. A glance at the statistics will show this. The bad years were 97/98 and 2001, and of course 2001 was a problem everywhere. So Japan, is not quite as bad as it seems? Well, not really, because the Titanic has a big hole in it, and is taking in water. I think that is the essence of the two types of deflation argument, some of us can see that nothing good can come of this. Quite another thing would be a generalised drop in prices and sustained economic expansion. My analysis (Mr Yen notwithstanding) is that this is not what we have in Japan.

Now this raises yet another question. Are we facing a global deflation scenario? The IMF thinks we are not, and I think we may be. If this is the case then continuing deflation in Japan is inevitable, and we, and they, will have to learn to live with it. This will be a 'phase transition'. You see this is the meaning of a dynamic system, things change. Solutions which were available yesterday, are not available today. I am sure the G7 are not listening to me, obviously had they been we would still have had the same problems, but maybe we would have had some palliatives, and maybe more options would be open. They are not, and the gardens are now closing, and not only in the west. Time is running out. This is not a 'funny' game. I, reluctantly, think that the most sensible thing now is to accept the inevitable. The 'liquidity-viscosity trap is a real problem, but there is no 'push this button' solution. Maybe, maybe if we were to do a big 'helicopter money' drop on the third world, but this, realistically, is not on the agenda.

So the questions, and here Joerg may be right, may become: how to learn to live with it? Many may wish to take issue with those luminaries of economic theory who said it would never happen. My pragmatism pulls against this, it is better to get on with the job, and look up river. Now Japan seems to be adapting. The question then is:can this last?

This is where I really take my difference from Joerg. Athena will not rise from the head of Zeus. All we are likely to find is a lot of rubble. You see, Joerg mentions the per capita growth question, what he does not mention is the dependency ratio: this must surely be the key productivity measure. And it is an assymetric one, since looking to the future, under 15 is better than over 65. So the first move should be to check out the population pyramid. In the table above the pyramid it can be clearly seen that population over 65 is growing (absolutely and as a percentage), while the other two groups are both declining. Now if we look at the labour force survey we can see that the labour force and the participation rate is declining, while the unemploymenbt rate is rising. This tendency seems unlikely to be reversed, ever (well maybe the unemployment rate may stabilise, but the participation rate will not. Conclusion, inevtiably we will have secular decline in both nominal and real GDP.

Now, to anticipate a little, I imagine Joerg will come back with the inevitable 'what if': what if the value added of the reduced workforce increases sufficiently to offset the decline in workforce. This is where the on the fly vs accumulated experience comes in. With things getting faster faster, the 'youth premium' goes up, and if you have lproportionately less young people, then you aren't in the high-end-value class. Ok that's it. Japan is sinking, we're all sinking, now what are we going to do?

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