Japan's lesson for China
A RISING Asian power is an export juggernaut and enjoys prodigious growth fueled by high savings and investment rates. Its rapidly modernizing industries threaten an ever greater swath of industry in Europe and the United States. Its formidable central bank reserves and burgeoning account surplus lead to claims that its exchange rate is being unfairly manipulated. Its financial system is bank-centric, heavily regulated in favor of domestic institutions and closely tied to government and industry. Rapid productivity growth holds down prices, but its asset values rise sharply.
Key congressional leaders in Washington demand radical action to contain the economic threat. Diplomats warn that public bashing is unproductive but make clear that economic issues are a crucial part of the bilateral relationship. Delegations of senior U.S. officials engage in "dialogue" with their counterparts about the many aspects of their economic policies that promote imbalances, warning of the congressional demons who stand ready to act if "results" are not achieved quickly.
All of this describes what is happening in China, and with our relationship with Beijing, today. It also describes the Japanese economy in the late 1980s and early 1990s, before its lost decade of deflation and considerable deterioration in global prestige. Although there are obvious differences, notably China's much lower level of development, the similarities are striking enough to invite an effort to draw some lessons from the Japanese experience.
The definitive history of Japan's dismal decade has yet to be written. But most observers would agree that key elements included the bursting of stock market and land bubbles, the resulting problems in the financial system, the collapse of aggregate demand as banks stopped extending credit and the difficulty of moving from export-led growth to domestic-led growth once consumer and business confidence was lost.
In retrospect, Japanese officials made several important policy errors. In order to avoid further yen appreciation in the late 1980s, they followed easy monetary and financial policies that gave rise to huge asset price bubbles and expansions in credit, which set the stage for the downturn. At the same time, they failed to encourage a shift to domestic demand-led growth at a moment when consumers were enjoying record increases in wealth. And they allowed problems in the banking system to fester. The result was that Japan was not well positioned to prevent or address the serious problems of the 1990s.
