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To: PaulM who wrote (7570)	2/13/1998 11:06:00 PM
From: CuriousGeorge	Respond to of 116998

Two Guarantees in Life - Debt and Taxes The Japanese Economy. smithers.co.uk Nikkei Kinnyu Shimbun's MARKET EYE column 9th February 1998 Japanese GDP has grown at only 1.2% p.a. over the past five years. To grow so slowly for such a long period is not only exceptional for Japan, it is most unusual for any developed economy. This poor growth has not, however, been caused by a shortage of savings and investment. The latter has remained strong and has clearly produced a derisory return. It can hardly be doubted that Japan is faced with some serious structural problems which government policy has failed to rectify, either through faulty analysis or a failure of execution. In my view the key structural problem is excess debt. This went unnoticed while land prices were rising inexorably, but when the bubble burst in 1990 the myth that Japanese land prices never fell was exploded. Since then the Japanese private sector has wished to repay debt and has thus sought to save more than it invests. If investment intentions do not match the wish to save, there will be a recession. The wish of Japan's private sector to repay debt would thus have the effect of depressing the Japanese economy unless there was a safety valve which could absorb the excess saving. There are two potential safety valves, one of which is for the government to have a large budget deficit and the other is for Japan to run a large current account surplus with the rest of the world. While Japan has not flourished over the past five years, it has avoided a slump and the key to this has been the rise in the budget deficit. This was reversed this year with the new policy of fiscal rehabilitation. This left only a rising current account surplus as the safety valve to absorb the excess savings of Japan's private sector. Although Japan's exports were able to take up the strain in 1997, in response to the fall in the yen from 80 to 120 to the dollar, an even weaker currency seemed likely to be needed if exports were going to expand enough in 1998 to keep the economy growing. The bad judgement shown in the budget was made worse by bad luck, as the crisis in Asia started only about three months into the new fiscal year. As Asia takes more than 40% of Japan's exports, the problems and devaluations of its neighbours has meant that the export safety valve was cut off soon after the government decided to shut the other safety valve by reducing the budget deficit. It is probable that the economy is already in a recession which will deepen unless the yen falls or the government changes its budget policy. The small tax cut announced in December suggests that this is recognised to some extent by the government, but the tax cut was too small to make any real difference. Fundamentally, however, the Japanese Government does not appear to have identified debt as the key structural problem. Debt can be reduced by bankruptcy, inflation or the issue of equity capital in place of debt. In practice the Government has tried to avoid each of these. Bankruptcy has been discouraged, particularly among banks. In a world where prices are exceptionally stable, inflation is unlikely in Japan without a weak yen, which is not thought to be possible as a deliberate policy measure because of international repercussions. The replacement of debt with equity has also been discouraged, as new equity issues have been made difficult due to the government's misguided attempts to support share prices at an unrealistic level. The pressure of events is likely to lead to a marked change of policy. A considerable fiscal boost is likely, partly through additional public sector spending and partly through a tax cut. The recent weakness of the dollar will, however, hurt the economy and it is far from clear that the government yet realise the extent of the stimulus needed. The Japanese economy is unlikely to achieve sustained growth until the problem of debt is acknowledged and action taken to cure it.