The Salvation of Japan

Prime Minister Shinzo Abe’s bold recovery strategy is working.

Japan's Prime Minister Shinzo Abe (front C) smiles during the ruling Liberal Democratic Party (LDP) annual convention in Tokyo March 17, 2013.
When Abenomics enthusiasm began to hit the blogosphere months ago, many longtime Japan watchers urged caution

Photo by YOSHIKAZU TSUNO/AFP/Getty Images

Something remarkable happened on Thursday. Sony posted a profit. Not a particularly large one for a company its size, but a profit nonetheless: 43 billion yen in its just-ended fiscal year. It was the first profit for one of Japan’s iconic firms since 2008. The exact same day, the price of yen slipped below 100 to the dollar for the first time in years. And while the precise details of the timing are a coincidence, the trends are not. Japanese Prime Minister Shinzo Abe’s plan to save his country’s economy seems to be working. His posture of bold, persistent experimentation—what Ben Bernanke once called “Rooseveltian Resolve” appears to be waking Japan’s long-stagnant economy from its slumber.

And it’s not just Sony. Japan’s broad stock market index is up more than 36 percent since Abe took office in late December. Household spending, housing starts, and industrial production all jumped the last time data were released. Japan is on the move again.

What’s the secret to its success? Mostly determination. Japan was marooned in a sea of macroeconomic despair. Short-term interest rates were at zero, the dread lower bound. But years of slow growth and failed fiscal stimulus programs had also saddled the country with the highest debt-to-GDP ratio on the planet. Conventional monetary policy was out of ammo, and running an even larger budget deficit with so much debt already on the books seemed insane. Abe decided, essentially, that when the macroeconomy gives you lemons, you make lemonade.

He brushed off the doubters and plunged ahead with new fiscal stimulus—reversing a big tax hike implemented by his predecessor—allaying doubts about debt sustainability by combining it with monetary stimulus. He fired the Bank of Japan’s president, and brought in an outsider.  Haruhiko Kuroda promised to do “whatever we can do” to curb deflation and said he wanted to see the inflation rate rise. The stimulus program will be affordable because under Haruhiko the Bank of Japan is committed to printing as much money and buying as many bonds as are out there. At least until inflation rises from its longtime near-zero level up to 2percent.

As a result, the yen has fallen about 12 percent so far this year making it easier for Japanese exporters to compete with rivals in South Korea, China, or elsewhere.

Even though that’s a lot, it would be wrong to see the Abenomics effect as simply currency depreciation. After all, the 36 percent increase in the value of Japanese stocks is much larger than the currency impact alone. And the data from household spending and home construction shows clearly that while a falling yen may be goosing Japanese exports, the stimulus program is having a broader effect on domestic demand as well. Everything, in other words, is going according to plan.

When Abenomics enthusiasm began to hit the economic blogosphere months ago, many longtime Japan watchers urged caution. Abe, they warned, was little more than a crude nationalist interested in using short-term stimulus to hide the need for real reforms. And a crude nationalist he may well be. Massive, expectations-jarring stimulus isn’t the kind of thing that countries undertake lightly. One plausible account of why the Japanese elite were finally spurred to action was alarm at the extent to which China was overtaking Japan. A firm nationalist perspective and a deeper commitment to foreign policy issues than economic ones may be exactly what it took for Abe to roust Japanese leaders out of their complacency.

Another frequent critique of Abenomics is that short-term thinking merely distracts from the need for deeper structural reform. But this is a false choice, whether in Japan or Italy or the United States. Governments can walk and chew gum at the same time. And in early April, Abe’s government announced a major overhaul of the electrical power sector in Japan. In many ways, a time of stimulus is an ideal moment to pursue reforms. The risk of all this yen-printing is that you’ll break the back of deflation only to immiserate middle-class Japan with rising consumer prices and stagnant wages. Things like reforms to bring more competition and lower prices to the electricity market become the best cure for the downsides of stimulative policy. Now he’s even talking about tackling Japan’s long-entrenched structure of discriminating against women in the labor market, probably the biggest structural problem the country has.

Japan’s economic reform may seem remote from everyday concerns in the United States, but it has important lessons for us. Japan fell into the trap of prolonged high unemployment and zero interest rates long before the United States did. It’s in many ways fitting that they now seem to be leading the path forward to recovery.