an excellent analysis......... Here is a Cliff notes with key parts in bold for the many who are looking fot the
Cliff Note... ( Hey I know, I'm that kind of guy too -vbg-)
And thanks again to Yorikke for come up with some fanastic economic papers from the Jerome Levy Institute
at Bard College.
levy.org
~~~~'It' Happened, but Not Again : A Minskian Analysis of Japan's Lost Decade.
by
Marc-André Pigeoon
Jerome Levy Economics Institute
June 2000
For most of the 1980s, it was difficult to find a media newspaper story or academic article in North America that did not look at Japan without equal parts reverence, awe, and disdain. The appellation "Japan Inc." captured the popular perception of a country more like a bee colony than a human settlement: Japanese workers were industrious, self-sacrificing and guaranteed lifetime employment; Japanese corporations eschewed the western preoccupation with short-term profits in favor of long-term gains. And the Japanese government and its bureaucratic apparatus were the figurative queen bee, nurturing a strange economy that was two parts capitalism and one part socialism/planned economy. What was frightening about Japan was that somehow it all seemed to work despite strictures from orthodox economics. What was awe inspiring was that Japan had grown from a demolished, disheartened nation following the devastation of World War II into the world's second biggest and richest economy, complete with some of the world's biggest banks, automobile, steel and electronics companies. What was disdainful was Japan's unwillingness to play by western rules.
Until early 1990 at least, most news articles still spoke of Japan's "miraculous" growth, about its huge trade surplus and the threat this posed to the U.S., and how the country's "more or less permanent bull market makes investors content with low dividends."(1) The suggestion that Japan enjoyed some kind of "permanent bull market" proved to be disastrously wrong. The Nikkei Index of Japanese stocks fell 39% that year. As early as spring of 1990, media reports spoke of the possibility of a recession despite economists' predictions of continuing positive economic growth.(2) While a degree of optimism persisted even after the crash, the mere suggestion that Japan might be susceptible to a western-style economic downturn amounted to a rupture in sentiment.
Indeed, the tone in the 1990s could hardly have been more different. Articles trumpeted the superiority of western, and especially American, economic and industrial organization. "Japan Inc." now referred to a country going broke rather than to an unstoppable behemoth and to some extent, they were right. Real economic growth averaged 1.7%, down from 4.1% in the 1980s, 4.02% in the 1970s and 10.5% in the 1960s. Japan's financial system is in disarray. The cost of bailing out Japan's banking system will likely exceed $500 billion.(3)
Japan's descent into a murky decade of slow economic growth occurred despite the vigorous application of fiscal, monetary and institutional policies that conformed, in all their minutia, to conventional wisdom. Including pension surpluses, Japan ran a budget surplus a full three years before its stock market crashed. The Bank of Japan, concerned about sky-high prices in the real estate market and the "threat" of inflation (less than 2.5%), aggressively increased interest rates prior to the stock market crash and continued to do so well after it was clear to most analysts that a recession was in sight. Meanwhile, Japan allowed its formidable institutional and regulatory structure to die on the vine. Again, this seemed like an eminently sensible strategy (and one actively encouraged by U.S. policy makers and pundits) in light of the seemingly "obvious" need to free its markets to the cool and nourishing breeze of full-blown global competition.
The reader will be forgiven if they detect a note of familiarity and irony in the last few sentences. The parallels to the modern day economy in both Canada and the U.S. are eery, with pundits today lauding the federal government's ever-expanding budget surpluses, the central bank's "cautious" and "wise" increases in interest rates--especially in the United States where speculation and hype in the ".com" businesses seem excessive--and the dismantling of the country's already thin regulatory (banking and environmental) and institutional structure (health care, public and private unions) through the North American Free Trade Agreement and other international arrangements.
Consequently, this paper makes two arguments. First, and contrary to popular perception, Japan's economy could only be labeled "speculative" or a "bubble" in three areas: stocks, real estate and banking. Firm-level balance sheet data as well as macro-economic data suggest the vast majority of firms were on a sound financial footing. Second, by following orthodox inflation "remedies", supposedly "sound" fiscal policy, and conceding to the "our hands are tied" logic of the globalization argument, policy makers precipitated and exasperated a crisis. This suggests the ongoing fixation with surpluses, higher interest rates and deregulation, both in Canada and the U.S., is equally misguided and dangerous. ........
..............The thrust of his argument was that financial innovation, driven by the profit motive, continuously threatened the regulatory structure with obsolescence. To continue achieving the great benefits observed in the economic expansion of the 1950s and 1960s, policy makers had to be vigilant and develop a deep understanding of how financial market innovations challenged and threatened the stability of the overall economy. This does not, in any way, imply that Minsky believed free markets should be invoked to solve all our problems. On the contrary, the free market is only one form of institution, albeit a very thin and weak one, something the vast majority of economists tend to forget. The question then is always what institution does the best job of meeting our needs, which from a classical (Smith, Ricardo, Marx) and moralist perspective amounts to asking how best we can a) provision society and b) share the fruits of society equitably. Minsky's other great contribution was to suggest that large institutions such as the central bank and the federal government could play key roles in keeping capitalism afloat. .....
.............We calculated a variety of accounting ratios to gage the solvency or relative financial fragility of Japanese firms by using balance sheet data from 66 of Japan's largest companies in five key Japanese sectors. These sectors reflect a mix of export (automotive, electronics, and steel) and domestic-oriented firms (textile and real estate).(7) Virtually all the ratios show most Japanese firms--including the real estate sector--were more solvent in fiscal 1990 than in fiscal 1985.(8) While we will not examine these ratios in detail, the thrust of the story can be gleaned from Figure 2, which shows a simple debt-to-equity (DE) ratio for all five sectors combined relative to the DE ratio for the real estate sector.(9) Two things are worth noting. First, real estate DE ratios worsened in 1987-1988 before improving dramatically (and more so than in other sectors) in fiscal 1989 and 1990. Second, in 1991, DE ratios edged up slightly for the five-industry average and leveled off thereafter but rose sharply, and continued to rise in the real estate sector. This suggests that profits in the real estate sector were mostly speculative, characteristic of what Minsky said one would observe for "Ponzi-financed" firms, i.e. firms whose viability depends on their ability to find someone foolish enough to buy their already-overpriced asset. The extent of real estate speculation can be gleaned from the case of Sapporo Breweries Ltd., which valued its Tokyo real estate at $2.5 million while in fact the plot was thought to be worth more than $9 billion.(10) ..........
............it is important to bear in mind that Japan had a long tradition of highly leveraged financing. Abegglen and Stalk (1985) make this point repeatedly in their discussion of the Japanese corporation (Keisha), arguing that a leverage ratio of 2:1 or higher was not at all unusual. During the high growth period (1945-1970) for example, success depended on aggressively expanding debt. The motorcycle industry is a classic example. In 1950, a company called Tohatsu was the acknowledged market leader with 22% of the domestic Japanese motorcycle market. It was widely believed to be a very sound company, especially relative to its apparently reckless rival, an up and coming company called Honda which had 20% of the market. In less than five years, Honda grew its market share to 44% by aggressively expanding through debt while Tohatsu's fell to 4%. In 1964, Tohatsu filed for bankruptcy. The moral of the tale is that DE ratios that appear precarious at one point in the cycle can be "cleaned up" by rapid growth. What appears to be prudent behavior is in fact not and those that behave by "prudent" standards get punished. "The kaisha have been built on a very rapid growth economy.
..................
............THE CRISIS AFTERMATH
We have suggested that the years leading up to the crisis were framed by two broad historical and institutional trends : first, Japan's ascendency threatened U.S. economic hegemony. This led to the death of the Bretton-Woods agreement, trade tensions, the 1985 Plaza Accord and a broad agreement to deregulate its financial system. Why would Japan--the second largest economy in the world--accede to U.S. demands? Japan believed it had to acquiesce to U.S. pressure in order to maintain access to the richest consumer market in the world, much like Canada's pro-free trade forces argued in the 1980s and early 1990s. Second, Japan's financial structure was undergoing serious institutional changes that were directly related to the first trend. This led to the erosion of Japan's early postwar policy of segmentation, which in turn contributed to real estate and stock price inflation. The catalysts to the financial crisis were monetary and fiscal.
The collapse of the stock market exposed the speculative nature of the real estate sector and banking sector : <?b>while various solvency ratios may have been improving in the period leading up to the crisis, the gains were based largely on asset inflation. This is evidenced by the abrupt change in sentiment towards both the real estate and banking sector. Less than a month after the precipitous stock market decline and in the midst of rising interest rates, Moody's Investors Service Inc. lowered its debt ratings on three large Japanese banks because "there is potential weakness in Japanese real estate prices even though institutional arrangements have prevented serious losses so far."(32) This warning was issued well before the fall in real estate prices and indicates the extent to which the stock market crash changed sentiment. Bond agencies are often slow (or loath) to recognize debt problems so this warning, in the context of falling stock prices, was a particularly important signal that all was not well with Japan's financial system.(33) It also meant that these banks--as well as other banks not affected by the rating--would probably face higher interest costs when issuing bonds or debentures. .......
..............PARALLELS
Early in this paper, we suggested there were striking parallels between what happened in Japan in the 1980s and what is going on now in the U.S. and Canada. To some considerable extent, this can be verified simply by comparing what is written in today's newspapers with what was written about Japan back in the 1980s. It can also be confirmed by citing the discourses of major politicians. While the words may not be exactly the same, the underlying themes are very similar, with, for example, the modern-day Internet sector being directly analogous to Japan's real estate sector. As Mark Twain reportedly said, history may not repeat itself but it certainly rhymes.
One can also get a sense of how well it rhymes by comparing movements in broad economic data. In Figures 9, we compare output growth in the U.S. and Canada with developments in Japan during the 1980s and assume that Japan's experience in the 1990s is a fairly good predictor of what might happen in North America during the next 10 years. To arrive at our projections, we employed an admittedly crude and somewhat ad hoc approximation by transposing Japan's growth rate from 1981 forward over data for 1991-2000 for the U.S. and Canada. In other words, the chart shows that Japan's 1991 growth rate was 3.5% when in fact this is really the growth rate observed in 1981. Data after 2000 are what was actually observed in Japan for 1991 forward. Clearly, the future is not very bright if we were to go by Japan's recent experience.
We employed the same technique in Figure 10, where we compare the central government of Japan's budget balance with those of the U.S. and Canada. Note that this Figure reverses the signs on surpluses and deficits to conform with the logic of Kalecki's model : surpluses are given negative signs because they represent a drain on aggregate profits while deficits are given a positive sign because they add to corporate profits. Again, this figure suggests we may expect another year or two of surpluses before a recession sets in and what remains of the social safety net drives the government (mercifully) into a deficit. Finally, Figure 11 conducts the same type of analysis and suggests that Canada and the U.S. may be in for a decade of low inflation if not deflation.....
...........We can group the causal factors into two broadly defined groups. First, we have the contextual facts. They are as follows:
The real estate sector was highly leveraged relative to other sectors. Even though DE ratios moved lower in the period leading up to the crash, the subsequent worsening of DE ratios--especially in light of the continued improvement in other sectors--suggests these improvements were insufficient or illusory. When the speculation ended, so did the improvements. The importance of the real estate sector cannot be underestimated because of its impact on the banking sector, which we revisit next. In other words, the real estate sector constituted a "critical mass" of firms needed to trigger a crisis.
The banking sector grew ever more exposed to the real estate sector and stock market because of a broad decline in demand for financing from its traditional clients, the large Japanese corporations. The collapse of stock and then real estate prices, interacting with Basle accord provisions and other institutional changes, induced a "liquidity preference" on the part of banks.
The U.S., seeking to redress trade imbalances, put pressure on Japan to stimulate domestic and deregulate its financial markets.
The catalysts to the crisis were:
A sharp spike in interest rates by the BoJ, which abandoned its earlier commitment to high growth. The increase collapsed first the stock market and then the real estate sector by reducing the demand price and increasing the supply price. The collapse of the former and its impact on the banking industry and overall sentiment contributed to the collapse of the latter.
A government budget surplus, which impinged on corporate profits and a consumption tax that slowed consumption, thereby further eroding corporate profits.
The broad over-riding theme in Minsky's work and in most non-mainstream work for that matter is that of a capitalist economy that naturally moves in and out of crises. The only constant is constant change. There certainly is no static equilibrium, as the most simple textbook presentations (and even many of the more sophisticated mathematical models) seem to suggest. If anything, the absence of large scale non-market institutions (big governments, central banks) make crises worse, not better. The best institutions adapt quickly to these constant changes |
