Japan

Japan's New Stimulus: The Race With China To The Bottom

Gordon Chang

Forbes,

30 December, 2012

On Friday, the Nikkei surged to its highest mark since the March 2011 earthquake. The 0.7% jump came on the news that Japan’s industrial output in November dropped 1.7% from the month before, a fall far exceeding analyst forecasts. The consensus was that there would be only a 0.5% decline.

And more bad news is on the way. The Markit/JMMA Japan Manufacturing Purchasing Managers Index for December fell, plunging the most it has in more than three years.

Why did investors love the bad news? The universal consensus is that the fall in manufacturing bolsters the case for Shinzo Abe’s plans to stimulate the economy. The new prime minister is pursuing a broad-based program of shocking Japan out of its fourth contraction since the turn of the century.

First, Abe is going to prime the pump in a big way. He is, for instance, about to propose a 10 trillion yen ($116 billion) supplementary budget of new infrastructure projects and tax breaks for the last quarter of the current fiscal year, which ends March 31. And that will inevitably be followed by more spending in the new year.

Second, Abe is going to push the yen down to help struggling exporters. News of his stimulus plans is already having that effect. On Friday, the Japanese currency hit 86.64 to the dollar in intraday trading, its lowest level since August 2010.

Third, the just-installed prime minister is leaning on the Bank of Japan to open up the taps. For starters, Abe wants the central bank to double its inflation goal from the current 1.0%. After his threats to amend the law that ensures its independence, the institution will almost certainly adopt the 2.0% target at its next meeting, scheduled for January 21-22. Furthermore, the Bank of Japan will undoubtedly continue to ramp up its asset-buying and lending program.

Markets may love Abe’s stimulus solutions, but they are at best short-term fixes. Tokyo, after all, has tried them all before with generally unsatisfactory results. What Japan needs is not another paved-over riverbed—past spending programs have resulted in useless infrastructure—but structural reform to increase the country’s competitiveness.

Tokyo’s political elite, unfortunately, has got hooked on the false notion that governments can create enduring prosperity. Two decades of recession and recession-like stagnation in Japan are proof that repeated government intervention in the economy does not in fact work.

Fundamental solutions, however, are politically unacceptable in Tokyo at this time. For one thing, Japan’s entrenched interests will block necessary changes. And if that were not bad enough, Abe apparently feels under intense pressure to fulfill campaign pledges with quick results.

In one sense, it is a mystery why Tokyo is continuing to make mistakes when it comes to government pump-priming. Yet the miscalculation becomes more understandable when Japan is viewed in the context of recent moves by the Chinese government. This year, Beijing has sought to push up growth rates with even more infrastructure spending and loose monetary policies.

Although there has been a “recovery” beginning in October, it looks like the upturn is already running out of steam. China’s technocrats know they’re in trouble: they are apparently planning to increase the central government’s planned deficit for 2013 by 41% to 1.2 trillion yuan ($192 billion). At present, it is now slated to be only 850 billion yuan. Much of the shortfall is going toward an urbanization push next year. Last year, Beijing announced its intention to build 20 new cities a year in each of the following 20 years.

The two biggest economies in Asia are ailing at the same time, and both Beijing and Tokyo have decided that government intervention is the shortest path to long-term growth. Neither government’s program, however, looks viable. Unfortunately, both China and Japan are going down the wrong road at the same time.