Who would have thought that it would be in the Land of the Rising Sun that three arrows could miss their target so wildly?
Of course, I’m talking about the Prime Minister of Japan, Shinzo Abe’s, three arrows of fiscal stimulus, monetary easing and structural reform that were intended to claw Japan out of a dangerous cycle of recession and deflation. At the time, it seemed like the perfect policy, with fiscal stimulus intended to increase demand for goods and services and monetary easing by the Bank of Japan intended to generate the 2% inflation that Japan has so longed for, increasing aggregate demand and therefore triggering a virtuous cycle of economic growth. In addition to this, the structural reform intended to increase the competitiveness of Japanese industry with regards to the world as a whole should have ideally bolstered and healed Japanese companies’ future prospects, after years of sluggishness. Yet as so often turns out, while Abe’s plans seemed to be worth their weight in gold on paper, they have failed to revitalise Japan and return it to the supreme economic status which it once had. Amongst a whole host of other indicators, Japan’s inflation rate fell to -0.4% in July 2016, lowering the proverbial coffin into the ground of another seemingly great set of economic policies. But why has it failed when it looked so good on paper? How has Abe fallen flat yet again? Could external factors be preventing the three arrows from working their magic?
Well, when you take into account Japan’s rapidly changing demographic, the answer to the latter question would be resoundingly in the affirmative. Since 2010, Japan’s population growth has been negative and birth rates have steadily declined while life expectancy continues to rise. On the health side of things, this is a massive breakthrough for the country, but economically, what it means is that Japan now is faced with the problem of a gradually dwindling labour force. Hence, although Abe is injecting billions upon billions of fiscal stimulus into the economy, the decline in labour force has resulted in a decrease in consumer demand in spite of his policies, due to less people having the money in their pockets to actually spend in the first place. In this regard, what Abe could further focus on is spearhead a further push for immigration to bolster aggregate demand and consumer spending, in turn boosting growth before the arduous and potentially unfruitful wait for Japanese societal norms regarding children to change (he has made great strides towards this with his Abenomics 2.0 programme). Perhaps in the case of Japan, this policy would be far more beneficial to her than any fiscal package that Abe could come up with; it would certainly at least be worth a try.
One side effect of recent Japanese economic policy (in particular the monetary policy of setting negative interest rates) has also been a devaluation of the Japanese yen, allowing Japanese firms to become complacent in the face of high profits. Due to the weak yen increasing Japanese firms’ revenues from abroad, the result is a lack of incentives for these firms to innovate and increase productivity. Due to this, the economy’s productive capacity has stagnated, hindering its potential for long run economic growth. Recent reports indicate that distinguished figures such as former chairman of the Federal Reserve, Ben Bernanke, declaring that “monetary policy is reaching its limits” in many developed countries. Due to this, it is feasible that the cut in interest rates to negative levels, while effective on paper, has not worked so well in reality because it disincentives innovation within Japan, and without innovation, it is extremely difficult for a capitalist framework to thrive and prosper. Therefore, perhaps an appreciation of the yen against the dollar would not be as disastrous as many pundits claim, and instead, may indeed provide a route by which Japanese firms can finally move forward.
Social attitudes in Japan currently are also not exactly conducive to economic progress. Due to many of the current Japanese young generation having known nothing but economic stagnation, deflation (or very low inflation), and failed government policy, these young people, traditionally some of the big spenders in a modern economy, have failed to provide the Japanese machine with a much needed boost. It has gotten so bad that one individual said to the Financial Times that she feels as if she is “more conservative than [her] grandmother.”, such is the backwards direction which Japan has gone in with regards to spending. The solution to this is much less science than it is alchemy, and the only way which Japan can really try and fix this problem is a bottom-up approach to incentivise spending amongst young people. In my opinion, this could be achieved by portraying spending on goods and services as some sort of natural duty, invoking patriotic sentiment and therefore triggering spending to lurch from its slumber. However, Japan’s problems are both deep and wide ranging, and will take years, or perhaps even decades of consistently successful government policy to solve. While Abenomics is well-intentioned, it simply has and will not work in practice, and perhaps what Abe and his fellow policymakers need to do is to think a little bit outside of the box.