Causes for the burst of the economic bubble in the 1990s

1. Long time economic partnership with the U.S. and the policy of export to occupy market share eventually led to a trade imbalance between Japan, the U.S., and European countries.

• The indebted nations' currency fell in price in relation to the yen (the yen became more expensive versus the dollar, in other words).
• Consequently Japanese exports abroad fell as Japanese goods grew more expensive.
• The strength of the Japanese yen led to a greater export of the yen, rather than just material goods, e.g., in Sony's purchase of Columbia Pictures, and in the Japanese purchase of real estates in Hawaii and mainland U.S.A.
• The Bank of Japan and the other Japanese banks' loose investment policies encouraged financial investments abroad. (compare that with our Savings and Loans scandal in the 1980s when similar indiscriminate lending from our banks to businesses led to many bad loans, consequently leading to a reform of U.S. banks.)

 

2. Failed ventures in overseas investments around 1990 led to burst of the economic bubble.

•  Large scale financial investments overseas and economic development at home led to high speculation of the Japanese stock market.
• Economic recession of Europe and the U.S. in 1989 led to heavy Japanese financial losses because most of its investments were in these two regions.  It led to a big drop at the Tokyo Stock Exchange in 1990.  (compare that with our stock market setbacks in recent years because of over-investments in the dot.coms and the technology sector.)

3. Chain reaction that prolonged the recession.

• The drop of the Nikkei Index at the Tokyo Stock Exchange led to a chain reaction: banks and individuals preferred to hold cash to investment or to spend. Japan went into a recession, which was exacerbated by the state policy to cut public spending, reinforce bank monitoring of loans, and tax increase, leading to even less spending, in 1996. 
• In the face of economic recession, many government policies that seemed to be virtues of Japanese economy in the 1980s now appear to be hindrance to its economic recovery.  The government's continued protection of some of the large banks from collapsing, and of small companies, e.g. department stores, from going under, perpetuates the existence of bad loans that prevent further economic development.  Many large companies' slow decision to lay off workers, according to some critics, was also to blame for a slow economic recovery.
• The government is loaded with tremendous debt because of the recession in the past 12 years.  Its constant decisions to cut spending is said to perpetuate the deflation, a result of the lack of consumer spending.
• Many companies' decision to relocate themselves to other countries, e.g. China, where the average worker's pay is 1/25 of that of the Japanese worker, only exacerbates the domestic economic woes.  Many Japanese university graduates find it hard to find full time jobs, and some decided to do temporary and part time jobs for life.  This only contributes to lower levels of consumption at home.

4. Is structural reform mandatory to an economic recovery?

Successive Japanese cabinets have hesitated to launch real structural reforms.  The current Junichiro Koizumi cabinet received a landslide victory when Koizumi was elected on the promise that he was going to structurally transform the Japanese economy in 2001.  By now, Koizumi has received numerous criticism for his indecision to actually let go of government intervention in the economy, including letting all banks with too many bad loans or small department stores declare bankruptcy.  Koizumi's decision to cut public spending also leads to criticism that it will only perpetuate the deflation.  Koizumi and his predecessors' major concern has been the flood of unemployment as well as financial disaster that massive bankruptcies would cause.  Such "bleeding" of the economy would go against the post World War II Japanese government's emphasis on "social harmony," reflected in companies' lifetime employment system and the paternalistic attitude of the Japanese state toward many companies.  It would, presumably, create an ideological vacuum for the Japanese who had been constantly exhorted to be loyal and dedicated to their company and state, and to put national unity, prosperity, and Japan's place in the world, above individual interests.

While structural changes to Japanese economy seem to face insurmountable hurdles, doing without them seem to present almost as many challenges.  For one thing, for a long time, the Japanese state has largely relied on a "welfare society"--private companies--to provide pension and job security to individuals.  With the projected increase of the Japanese reaching the "silver age" (65 and above) to 27% in 2025 and the prolonged life expectancy, the private sector will not be able to fully shoulder the responsibility of taking care of this population, and the state needs to move more toward the direction of a "welfare state" like the U.S. and western Europe, having the state pick up part of the tab for medical costs, pension, etc.

A state more interventionist in providing social welfare should also relinquish some supervision over the private sector, many argue.  Having the economy "bleed", meaning letting unemployment go up and letting companies go bankrupt, will create momentary pain, but in the long run it will contribute to economic revival as the bad debts will be written off, consumer confidence will be revived, and there will be new investment opportunities for new or rebuilt banks.

The above argument, however, will in all likelihood be used as a guideline for the Japanese cabinets in the next 10 years, in my view.  In reality, a complete restructuring of the Japanese economy will never materialize, and Japanese economy will be limping along in the next 10 years.  Tradition and cultural considerations weigh too heavily on the minds of Japanese leaders to be ignored.  Changes will be gradual.  As unemployment continues to rise, companies die a slow and anguished death, social unrest gradually goes up, successive Japanese cabinets will gingerly loosen their protective grips on the economy.  Meanwhile, trying to put in place some state sponsored network of social welfare.

5. Predictions of the future

The agony, again in my view, will finally come to an end in 10 to 15 years time, when the companies in bad debt have finally come to their end, clearing room for new, vigorous companies and greater competition.  This will probably be followed by a greater opening of the Japanese market to the outside world, followed by changes in Japan's distribution system to ease foreign companies' entry into the Japanese market.  In other words, the end result is Japan will become a more market oriented economy than it is now.  But again, it will come gradually, rather than at once, to allow the Japanese time of transition to a new way of thinking.  Japan will ultimately become more international, and prosperous, perhaps continuing its tradition of high quality products, and perhaps still leading the world in technological innovations.

There are also other predictions, both positive and negative, of Japan's future.  A negative one, appearing on Aug.12, 2002's New York Times, gives two contrasting predictions, one that Japan will be a mediocre country befitting its size and real status, like what has happened to England, and its disappearance from its international power status will not even be felt because of its inward looking nature and failure of sufficient international commitments befitting a power.  The other prediction was that the 100 per cent literacy and quality Japanese products will enable Japan to remain a first rate power in the 21st century.  The prediction that I find more convincing is one that appeared toward the end of an article in the NYT on Aug.31, 2001 and that foresees Japan, with its aging population, as a "headquarters country," living in large part off investments overseas and brain work at home, something that many U.S. companies, such as Nike, are already doing.