Thursday, July 25, 2013


In the next year or so, I predict Japan will be a game-changer. The country will grow robustly, contrary to many economists' expectations, including all of the deficit and inflation hawks. What's going on?

As Ambrose Evans Pritchard of The Telegraph explains in this article today (here), new Prime Minister Shinzo Abe is taking a leaf from the book of pre-World War II Finance Minister, Takahashi Korekiyo, and combining very aggressive fiscal and monetary policy to lift Japan out of the deflation/low growth doldrums.

"Abenomics is working," says Klaus Baader, from Societe Generale. The economy has roared back to life with growth of 4pc over the past two quarters – the best in the G7 bloc this year. The Bank of Japan's business index is the highest since 2007. Equities have jumped 70pc since November, an electric wealth shock.

"Escaping 15 years of deflation is no easy matter," said Mr Abe this week, after winning control over both houses of parliament, yet it may at last be happening.

Prices have been rising for three months, and for six months in Tokyo. Department store sales rose 7.2pc in June from a year earlier, the strongest in 20 years.

Why might this be a game-changer? Stimulus works. And it works best when combined with aggressive monetary policy. We used to know that. John Maynard Keynes, an economist hero of the Depression, who developed the case for fiscal policy when demand was deficient to power the economy to full employment, reigned supreme until the mid-70s'. Milton Friedman, the Monetarists, and the Chicago School succeeded him. Reagan took some of this brew, combined it with Supply-Side Economics, and US policy-makers never looked back.

The GFC (Great Financial Crisis), that should have thrown this neoliberal orthodoxy out the window, simply failed to do so. We got the Stimulus, but only barely. Europe had even less stimulus, before it quickly reverted to neoliberal, inflation-fighting, there-is-no-demand-problem form. Austerity, in simpler language. And the neoliberal argument was, and continues to be: "Cut Government spending. Reduce deficits. And businesses will begin investing, because their confidence will have improved through this demonstration of fiscal propriety."

What's happening in Europe is, for me, convincing evidence that austerity does not work to create demand. It works to reduce demand even further, resulting in a downward sloping deflationary path. Here in the US we had insufficient stimulus to really knock unemployment down, but just enough to move us into modest, still fragile growth. Obama has done a brilliant job holding off the mad dogs of the GOP that wanted radical budget cuts, to turn around the debt and save us from imminent economic calamity. But he could not completely stymie the budget cutters, viz. the mess of the sequester.

Now enter Japan. Beginning in December, when he was elected, Prime Minister Abe and new Bank of Japan Chair, Haruhiko Kuroda, have been flooding the markets with money and the economy with fiscal stimulus. Just Sunday, Abe won a landslide election, putting his Liberal Democratic Party in control of both houses of Parliament, for the first time in many years. He intends to move forward with market-opening reforms, particularly in the hugely inefficient agriculture sector. We are starting to hear real noises that Japan will join the Trans Pacific Partnership, a trade pact under negotiation right now, and likely to have a giant impact on the Pacific region in coming years (even China is now considering membership).

Japan is starting to grow. Inflation/deficit hawks (i.e., most mainline economists) consistently and loudly say this is simply insanity ("How can you add more debt onto one of the most indebted countries in the world?") They predict the bond market will plunge (quite possibly collapse), causing JGB (Japanese Government Bonds) interest rates to spike, threatening the solvency of the Japanese Government, threatening a complete meltdown. Even Pritchard in this article is not sure if the low 10 year JGB interest rates can hold; he suspects this high money/high spending strategy may well blow up.

It won't. Why I am sure it won't will be the topic of many future blogs. One of the things I've been doing in my 18 month blog sabbatical is studying economics, particularly a relatively new school called Modern Monetary Theory, or MMT. I have concluded that MMT has it right (they are among the very few that called the 2008 GFC) and the neoliberals and other VSPs (Very Serious People, per Krugman) have it absolutely wrong. More about all this later.

So how might Japan and Abenomics be a gamechanger for us. If they demonstrate that fiscal stimulus, combined with aggressive monetary policy works, and works Big Time, the progressive voices calling us to do the same will, I hope, become a deafening chorus. And at the same time, the Eurocrats will be made to look the policy fools that they are, and Europe can begin to grow its way back to life.

I am ever hopeful!

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