Japan’s Weakness Is No Threat

May 29, 1998 • Commentary

Dazed and bleeding, Japan has become everybody’s favorite whipping boy. According to the emerging conventional wisdom, Japan’s inability to pull its economy out of the gutter is now a threat to the rest of Asia and even the world. Japan’s problems have become our business, the line goes, and so we have a responsibility to make the Japanese help themselves.

So far, official Washington’s response has consisted of high‐​profile public nagging. But some policy analysts have decided that talk is no longer enough — it’s time to do something. Ed Lincoln of the Brookings Institution suggests in Foreign Affairs that we cut off all diplomatic consultations to show we mean business. The Economic Strategy Institute’s Clyde Prestowitz has called for a special session of the World Trade Organization to address the Japan problem.

Such increasing hysteria is dangerous folly. Japan’s economic woes are not a trade problem, and should not be treated as such. In particular, a weak Japan didn’t cause the Asian crisis, and a stronger Japan won’t fix it. Ultimately, Japan will reform its economy successfully — or not — on the basis of domestic political realities. All our breast‐​beating can accomplish is to stir up ill will between our countries and give aid and comfort to forces, both here and in Japan, that profit from trade tensions.

Let’s be clear: Japan’s economy is a mess. The 1990s have been a lost decade, with growth since 1992 averaging around 1% a year. A recession, and perhaps a serious one, is now under way. Unemployment is at record highs. A black hole of bad debt has sucked the life out of the banking system. And those are just the short‐​term problems.

The deeper structural flaws of the Japanese system are even more daunting. Japan’s whole system for allocating capital is broken. The rate of return on capital has now fallen below that in Europe and is less than half the U.S. rate. And over the next two decades, the working‐​age population will fall by 20% — bad news for growth, and even worse news for the country’s public pension system.

Japan has clearly become an economic underachiever, but how is that a trade issue? Trade disputes should deal only with government policies that discriminate against goods or services of foreign origin. The dysfunctional Japanese policies at issue don’t fit that description. Punitive tax rates on corporate and personal income do not discriminate against foreigners. Neither does the failure to clean up banks’ bad debts. Neither does the hopeless attempt to fake economic vitality with wasteful public works spending.

But, the saber rattlers argue, if Japan did reform its economy and return to a healthy growth path, it could import more and take up the slack of the ailing economies of the Pacific Rim. Maybe, but how does that distinguish Japan from other countries? Surely Europe could grow faster and absorb more imports if it weren’t hobbled by chronic double‐​digit unemployment. Why don’t we berate the Europeans for not “doing their fair share?”

There have been suggestions that Japan somehow caused the Asian crisis by its weakening yen. To which the proper response is: Get real. If the charge is true, why have Taiwan and Singapore and the Philippines emerged relatively unscathed? The countries that got clobbered — Thailand, Korea and Indonesia — were pursuing unsound policies that caused massive misallocations of capital. They have only themselves to blame for their troubles.

If we must identify an external villain, the United States’ bailout of Mexico did more to set the stage for the current bust than anything Japan did.

It was only a few years ago that Japan’s strength was thought to pose a clear and present danger; now its weakness is supposedly a threat. Indeed, some of the same people who were sounding the (false) alarm then are doing it again now — most notably, Mr. Prestowitz.

Like the eco‐​hysterics who flip‐​flop between predictions of a new ice age and catastrophic global warming, some “experts” on Japan aren’t happy unless they’re spreading panic. Their track record is a good indication of how seriously they should be taken today.

Japan needs sweeping reforms, especially to its tax structure and its financial system. Many Japanese realize that and are pushing for change. Whether they will succeed is unclear. The “Big Bang” reforms of the financial system offer reasons for hope; recent efforts to rig the stock market and continued addiction to public‐​works boondoggles do not.

In the end, Japan’s future is up to Japan. It is neither our place nor within our power to dictate Japan’s domestic policies. Besides, we have plenty to do keeping the U.S. economic house in order. If we stick to that job and reap the gains that prosperity brings, our example will do more to encourage pro‐​market and pro‐​growth reforms in Japan and elsewhere than any amount of table pounding.

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