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Monday, May 30, 2011

JAPAN’S PROBLEMS AFTER YEARS OF SUSTAINED GROWTH

The story so far…
1960s, the economy had risen about 10% per year
By the mid-1970s, there was an end to the rapid growth – growth fell to about half that.
In 1974 – the economy actually shrank rather than grew.

The 1990s were actually known as the lost decade.

WEAKNESSES OF JAPANESE ECONOMY

1. HEAVY RELIANCE ON IMPORT OF RAW MATERIALS
Dependence on raw materials was key – needed cheap access

a) Oil Crisis causes recession and inflation
OPEC crisis – Problems caused by Oil shocks of the 1970s

- This shattered the promise of uninterrupted cheap raw materials
- Had already been affected by the Nixon Shock
- Thus exporting states had to be wary if the changes to their currency – no longer stable
- Steel and ship building were hard hit
- Had to solve the problems by making structural changes,
- Eg, lay offs, and gave workers benefits, and tried to find them jobs in other sectors, usually in the same keireitsu
- Structural changes seemed to work but the companies were smaller than before
- But while many sectors declined, 2 went up – automobiles and electrical manufacturing
- 1950s and 60s growth had made Japan dependent on imports for 80% of its energy
- This led to fears amongst the Japanese and due to fears from the past bad times – began hoarding goods – increasing prices
- Because of “first oil shock” – inflation, the Government had to reduce the money supply
- There became a need to control oil and energy consumption
- But rise of microtechnology was due to this change in economy





b) Dependence on foreign markets

- USA was the biggest customer, and by 1980s put up restrictions on imports
- Also many industrialised markets became saturated with consumer goods
- One of the problems was the increased protectionist measures in the 1970s
- Under Bretton Woods, the Japanese Yen was actually undervalued. It had stuck at 360 = $1 since 1949
- As a result, Japanese goods under the Bretton Woods system were considered relatively cheaper.
- By 1971, with the Yen continuing to be undervalued, Japanese exports were costing too little in international markets, and imports from abroad were costing the Japanese too much. This undervaluation was reflected in the current account balance, which had risen from the deficits of the early 1960s to a then-large surplus of U.S. $5.8 billion in 1971. The belief that the yen, and several other major currencies, were undervalued motivated the United States' actions in 1971
- By 1971, Washington could not take it any more and announced a 10% surcharge on imports
- And then cut the dollar loose from fixed international rates; this led to floating exchange rates by 1973
- Inflation soon took up in Japan
- Soon also – 1st Oil Crisis (1973)
- Depends on foreign trade of more than 50% of grain.

c) Rise of Yen and erosion of competitiveness

- Because of the Nixon Shock, Japanese currency appreciated
- Meeting in December 1971 at the Smithsonian Institution, the Group of Ten signed the Smithsonian Agreement. In the Agreement, the countries agreed to appreciate their currencies against the United States dollar.
- The Smithsonian Agreement ended the world's fixed exchange rate regime and replaced it with a floating exchange rate regime.
- After the Smithsonian arrangement in 1971, Yen increased from ¥360 to ¥310 to the dollar
- During the first half of the 1980s, the yen failed to rise in value even though current account surpluses returned and grew quickly. From ¥221 in 1981, the average value of the yen actually dropped to ¥239 in 1985. The rise in the current account surplus generated stronger demand for yen in foreign-exchange markets, but this trade-related demand for yen was offset by other factors. A wide differential in interest rates, with United States interest rates much higher than those in Japan, and the continuing moves to deregulate the international flow of capital, led to a large net outflow of capital from Japan. This capital flow increased the supply of yen in foreign-exchange markets, as Japanese investors changed their yen for other currencies (mainly dollars) to invest overseas. This kept the yen weak relative to the dollar and fostered the rapid rise in the Japanese trade surplus that took place in the 1980s.
- In 1985 a dramatic change began. Finance officials from major nations signed an agreement (the Plaza Accord) affirming that the dollar was overvalued (and, therefore, the yen undervalued). This agreement, and shifting supply and demand pressures in the markets, led to a rapid rise in the value of the yen. From its average of ¥239 per US$1 in 1985, the yen rose to a peak of ¥128 in 1988, virtually doubling its value relative to the dollar. After declining somewhat in 1989 and 1990, it reached a new high of ¥123 to US$1 in December 1992. In April 1995, the yen hit a peak of under ¥80 per dollar, temporarily making Japan's economy nearly the size of the US.
- The yen's increased value made Japanese exports less price competitive and imports more price competitive, which should have brought down the value of trade and current account surpluses. The current account figures discussed earlier, however, indicated that such a response was slow. The strong appreciation of the yen began in 1985, but the current account continued to rise until 1987. Its decline in 1988 was rather small, although it experienced a more substantial decline in 1989.


2. 1980s – “BURSTING THE BUBBLE”
- The Japanese asset price bubble was a time of skyrocketing land and stock prices in the Japanese economy, lasting from 1986 to 1990. It is one of the most famous economic bubbles in the history of modern capitalism.
- In the decades following World War II, Japan implemented stringent tariffs and policies to encourage the people to save. Loans and credit became more easy to obtain, and with Japan running large trade surpluses, the yen was able to appreciate against foreign currencies. This allowed Japanese companies to invest in capital resources much more easily than their competitors, which made goods cheaper, which widened the trade surplus further. And, with the yen appreciating, financial assets became very lucrative.
- Unfortunately, with so much money readily available for investment, speculation was inevitable, particularly in the Tokyo Stock Exchange and the real estate market. Additionally, banks granted increasingly risky loans.
- At the height of the bubble, a commonly-quoted claim was that the land beneath the Imperial Palace in Tokyo was worth more than the entire state of California.
- Japan regained a sense of national pride and assertiveness as a result of its new power, which manifested itself in works such as The Japan That Can Say No by Shintaro Ishihara and SONY founder Akio Morita. Accounts also report of high-level executives eating gold-sprinkled food and eating with gold chopsticks.
- Many outside Japan were alarmed by this resurgence, leading to criticism from foreign observers.
- Prices were highest in Tokyo's Ginza district in 1989, with some fetching over US$1.5 million per square meter ($139,000 per square foot), and only slightly less in other areas of Tokyo. By 2004, prime "A" property in Tokyo's financial districts were less than 1/100th of their peak, and Tokyo's residential homes were 1/10th of their peak, but still managed to be listed as the most expensive real estate in the world.
What did this mean?

- By 1985 – Plaza Agreement allowed the other currencies to appreciate against the dollar – meant the Japanese goods’ prices rose, but rising Yen also brought down the cost of oil etc
- Firms could borrow using their land assets as capital.
- Industrial firms, electric companies also improved but instead of passing the benefits to the consumer, they chose to invest it
- Invested overseas eg SEA
- Soon built factories etc in USA and other places
- Bought Columbia Pictures and Rockefeller Center; Japan shown to be powerful
- By end 1987, the value of land in Japan was ¥1,673 trillion, 2.9x that of USA.
- By beginning 1980s, there was an increase in financial liberalization and inadequate prudential regulations
- This played an important role in the increase in asset prices
- Japanese firms could now reduce dependence on local banks and draw on foreign capital in increasing amounts
- Local banks forced also to lend to smaller firms because of loss in clientele
- And also to the real estate sector
- But soon the bubble burst - By 1989, there had to be a tightening on monetary policy, land prices fell by 1991 and having been falling ever since.
- 1997 prices were 40% of 1990 peak value prices.

As a result

- With Japan's economy driven by its high rates of reinvestment, this crash hit particularly hard. Investments were made increasingly out of the country, and Japanese manufacturing firms lost much of their technological edge. As Japanese products became less competitive overseas, 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. Correcting the credit problem became even more difficult as the government began to subsidize failing banks and businesses, creating many "zombie businesses".
- The time after the bubble's collapse, which occurred gradually rather than catastrophically, is known as the "lost decade” in Japan.



a) Domestic Speculative Frenzy
There was over-speculation

- Rising Yen also led to more speculation
- Government tried to stimulate investment by reducing interest rates
- Firms speculated on real estate, stocks and securities
- Nikkei rose ¥12,000 to ¥39, 000 from 1985 to 1989
- Real estate prices rose
- Banks began to loan more
- While people may not have been much wealthier, on paper those that owned land seemed to be better off
- In 1990 the bubble burst when Bank of Japan rose interest rates at the guidance of the MOF
- Credit tightened and there was economic slowdown
- Worse – Yen continued to appreciate, by 1995 Japanese goods no longer that attractive. In 1993, surrendered its position as world’s number 1 car maker to USA for the first time in a decade

b) Over valued assets

- Firms and individual won loans by overvaluing their assets
- Land and stock holdings were over valued
- When the price bubble burst, it became hard to repay loans
- Banks began holding under valued collateral assets as land began to fall even more as there was deflation in the economy
- The prices had fallen because the Bank of Japan had put an end to over speculation. Land and equities fell in value
- Banks lost profits and some went into the red
- Banks also relied on shares owned in customer firms
- But the shares of such firms were declining in value

c) Loan defaults and bankruptcy

- Rather than calling in bad loans, the banks actually gave out more loans with lower collateral
- The MOF allowed this because there was lax supervision
- There was a definite conflict of interest as it was the only body that oversaw their behaviour
- By the 1990s there was an independent observer but it was too late
- Soon banks could not loan out anymore.
- The biggest firms could get loans from foreign banks or float their stock
- But the SMEs suffered
- These constituted 99% of the firms
- Soon job opportunities decreased
- Banks loaned money without close scrutiny. Not like in normal capitalist states because backed by the Bank of Japan.
- As a result, companies invested far beyond their capital worth
- Once the system collapsed after 1971, there would be problems
- So Bubble bursting can be traced back to period of high growth
- During the high growth period – 1950 – 1970s, high levels of investment, more so than in other states
- Banks overloaned and companies and corporations over borrowed
- Banks make money by making sure that deposits and capital it has generated is more than loans and investments, but this wasn’t the case

d) Prolonged recession

- In the 1970s there was a recession
- Inflation rose, profit down
- Japan had to adjust to the economic slowdown
- Mainly the private enterprise who had to reduce inventories and borrow less
- Cut workforce, robotics introduced
- Called for workers to take voluntary retirement
- Part timers laid off (but not the lifetime employees)
- Some public sectors fought back against these measures
- Since 1950s, they were not allowed to strike since 1947 but by 1975 there was a strike for the right to strike
- Hardest hit by the recession were the heavy industries that had led to the growth – steel, shipbuilding, petrochemicals
- These had been heavily dependent on cheap imports and oil
- By 1980s, Kyushu region down
- BUT – knowledge industries; electrical, computing clocks, watches were growing.
- “microelectronics revolution”
- VCRs to computers
- World began to see Japan as a technological as well as economic power, and tech gap began to close with the West
- Soon, due to recession and reduction in consumption at home, companies began to export even more abroad
- Exports rose faster than economic expansion, 1970 – $19b to 129b in 1980
- During the 1980s, trade surplus with the USA quintupled.
- Many of these exports were goods that the USA had produced before – automobiles, electrical goods, and heavy machinery.
- Made relations with USA worse. USA claims of dumping, while the Japanese claimed that their products were better, more efficient workers.
- In 1982 there was the murder of a Chinese-American who was mistaken for a Japanese
- USA tried to get Japan to reduce import restrictions to level playing field – Congress passed the Omnibus Trade Act in 1988 with its 301 Clause that allowed the US to take retaliatory action against state that practised unfair trade

3. STRUCTURAL PROBLEMS

Many of the features that were so important to the success of the Japanese earlier on, may be the main causes of the problems in later years.

Joseph Schumpeter (economist in the mid 20th century) believed that an economy must ensure a creative destruction (out with the old, in with the new)
Those (like firms) that don’t adapt are forced out.
Japan has resisted this. It has tried to protect its industries, showed by substantially lower closure and start up rates than in the USA

Banks concealed bad credit to bad firms
- Also top income tax brackets kicked in at a lower scale, than in other countries, reducing incentive for innovation and entrepreneurship
- hidden barriers: in protecting against foreigners, they allow bad local firms to continue
- Inflexible: more than 40% of companies shares are owned by bank related institutions and keiretsu own 30% of shares in their group’s banks. As a result banks lend to their own, rather than up and comers

a) Rigidities of Big Conglomerates

From the beginning there were problems
- Due to the Japan Inc., many firms borrowed from the banks – Banks loaned without checking the financial responsibility etc, because they were backed by the bank and the government.
- Japan continues tot face problems from other states; China, Vietnam, Korean, Singapore.
- But wages remain high
- There is over regulation; on average Japanese consumers pay 1/3 more per good than Americans
o For example, should a private bank wish to open a branch in a more distant locale, it needs to get permission from Tokyo based Bank of Japan
o Retail stores have to apply for separate permits e.g. one to sell hamburgers, one to sell hot dogs.
o Small retailers needs permission from numerous local officials

b) Problems of Lifetime Employment

In house unemployment – white-collar workers were inefficient
- They were slow to adjust to information superhighway – still doing jobs being done in USA by computers
- But they could not be laid off
- In 1994, Employer’s Federation introduced a proposal to end lifetime employment
- About 25% of the workforce was employed lifetime, but most companies tried to follow the practice
- Had an effect on employment stats. Inflated employment statistics.
o For much of the economic miracle, there was little social protection; employment figures were over quoted.
o Low taxes also meant little social services
o While the official unemployment rate was 3% in the 1970s onwards, it would be more than 6% if we took those that contributed little into account
o E.g. Nissan in 1995 had 26.7% surplus workers
o Japan could afford this when there was little competition, but with increasing liberalising of the economy competition increase and inefficiency became a problem.

- Even companies that don’t practice lifetime employment are less willing to lay offs workers.
- By 1994, Toyota, became the first to hire college educated workers without the guarantee of lifetime employment
- In the past, many Japanese firms also rewarded, the workers with high priced training in many different fields so that they would become loyal and better workers. It would allow them to be able to move within the company. But with today’s industries financed by venture capital and need specialised skills, the Japanese system may not be the best way anymore.

c) Prolonged Banking Crisis

Usually, firms develop relationships with a particular bank; the bank not only provides loans but also holds shares.
This is the main bank, it acts as an agent for investors.

- But the role of the main bank system is under scrutiny. In the 1980s, Japan like other nations liberalised their financial markets. Regulations on interest rates were abolished, and there were allowing for entry into new markets. Controls of inflow and outflow of capital was lifted.
- So corporations could now raise funds from domestic and international capital instead of banks.
- It is the same for keiretsu.

One of the problems – MOF pledged that no bank would fail.

After the liberalisation of finance, after 1985, affected banks.
Before it, the low interest rates created strong demand for capital but after – banks had to compete for borrowers by lowering interest rates and reduced profits
o Also meant that there was a deregulation of bonds
o Loans still increased
o To real estate industry increased by 300%, other industries 120%

Banking Crisis

- Bad loans (we have seen this already)
o In Nov 1997, Hokkaido Takushoku Bank, a major city bank collapsed.
o Also, Yamaichi Securities, one of the largest security houses followed.
o highlighted the problems

Because of the bubble bursting, banks lost money; they owned substantial amounts of property
o Also because of a lack of supervision;
o But by 1998 March, banks started disclosure like along the lines of Securities and Exchange Commission in USA.
o This showed that there had been about 71 trillion yen worth of “doubtful” of “sub-standard” loans. (about 14% of GDP)
o By the 1990s, a declining availability of credit
o “credit crunch”

d) Economic Stagnation

After Bretton Woods, collapsed there was a change in the system; from the expansion of trade and production to expansion of monetary and finance activity

USA needed to change the policy to open Japan.

Japan also loss its autonomy in determining fiscal and monetary policy

In the 1990s, unemployment rose by 3% while USA dropped by 2%.
From 1996 to 2002, per capita GDP was only 0.2% and from Feb 1991 to Jan 2002 (131 months), there were 66 months of recession, while USA only had 16.

Since 1948, the Japanese did not use good policies, like in the 1948s it depended on USA’s Dodge Plan for financial stabilisation
- from 1992-5, Japan’s growth of 1% or lower was lowest among G-7 countries.

CONCLUSION

Japan enjoyed great growth in the 1950s, 60s and 70s. But by the 1980s, the economic miracle was no more.

Japan suffered from banking problems of bad loans and over speculation.

By the end of the 20th Century, Japan has had to re-evaluate its position and change many of its economic programmes that had in fact been at the core of its growth.

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