Abenomics and Investment


Japan is now into year 24 of economic underperformance. Since 1990 average GDP growth has been just over 1% per annum. This year the new PM has installed a new central bank head, who has promised to double the money supply in an effort to push inflation up to 2 percent. The PM is also planning to spend over $100 billion on new and upgraded infrastructure in the next 15 months in an effort to stimulate aggregate demand. Will this finally push Japan out of the doldrums? I doubt it. Japan already has excellent public infrastructure. The marginal benefit of extra infrastructure is likely to be very small, and even proponents of the infrastructure spend admit that the multiplier is likely to be small. Japan faces two major impediments to higher growth. The first is a lack of private investment, driven in large part by a lack of economic reform. Since 1990 private investment has fallen by about 0.8% per year.  The second issue is demographics. An ageing and declining population is already having an effect on the Japanese economy, and construction in particular has been badly affected by these changes. Dwelling investment is now at late 1960s levels, and other measures of construction activity are well down on 1990 levels. Other forms of investment are at 1990 levels – enough to stifle growth without the drag from construction. Demographic change provides new opportunities and challenges. Japan has shown how not to manage these challenges, and much of Europe is following the same road – lack of reform, too much debt and to0 little focus on private investment as the driver of economic growth.

11 Responses to "Abenomics and Investment"
  1. I don’t get all this fuss over Japan. They are rich, have low unemployment, terrific infrastructure, and current account surpluses most of the time. Seems a pretty terrific economic place to be compared to just about anywhere on the planet at the moment. And yet somehow we should be afraid of that outcome. Seems more like we should be learning from it.

    • +1

      And if you take away the preoccupation with growth (how’s about a bit of per capita?), the article is actually quite positive.

      ‘the marginal benefit of extra infrastructure is likely to be very small’ -> isnt this sort of the definition of success re: economic development?

      Congratulations Japan, you’ve defeated the end-boss of economics. More capital will no longer make you richer.

  2. I agree that economic reforms (liberalization) is what is really needed to encourage long-run growth. Japan is in the same boat as the US and Europe when it comes to high debt and an ageing population. I would also suggest that Japan needs more immigration to deal with its population decline. Monetary expansion and fiscal stimulus can only go so far.

  3. Private investment drive economic growth? You need prospective consumers to justify an investment. When the working population is falling, it is difficult to project an increasing market to justify private investment.

    Japan has enourmous demographic issues – it had the most extreme baby boom of any country – but it has done far better than Europe in terms of maintaining an okay place to live on the downside of that boom. It may well turn out to be the shining example of how to deal with demographic problems.

  4. Mark Crosby, I’m a bit confused by your post. Are you arguing that Japan is at full employment and that its main macroeconomic issue is not inadequate demand but slow long-run growth in productive capacity?

    You criticise Abenomics for not focussing on private investment. But isn’t the point of promising to increase the money supply and push up inflation to lower real interest rates, stimulating private investment? Most of your post focusses on fiscal policy and your view that it will be ineffective because of small multipliers, but you don’t explain why you believe the new approach to monetary policy cannot work.

    • I agree with the comments about Japan enjoying high living standards – it is not true that low growth implies poverty. But it is true that Japan has not found the right economic model for an ageing country whose population is declining. Piling up government debt is not at all the answer. Couple of points focusing on investment – the lack of private investment reflects a lack of confidence in Japan’s economy, zombie-like firms (things have improved on that front) and lack of competition. Same reason that consumers aren’t consuming. Bottom line is that a government only driven economy does not work. Finally, I don’t believe that firms in that environment will borrow and invest, so QE is unlikely to work.

      • So government shouldn’t borrow to invest in public infrastructure, because the marginal return is low. Yet the private sector should be borrowing to undertake similar investments because…

        You also seem to think there is a crowding out because of this government investment. The test will be whether the trend in private investment significantly changes because of this extra government investment.

        If Japan hasn’t found the right economic model, what do you think it is? Give me an example of a country with similar demographic trends that you think they should be more like

        • Who said the private sector would undertake similar investments? Building a new airport north of Tokyo that hosts 6 flights a day? That is the sort of thing that the government is wasting its money on. The trend in private investment won’t change. Little to do with traditional crowding out, but to do with a malfunctioning economy – consistent with the market reaction to yesterdays announced reform package in Japan. There aren’t many countries with similar demographics, and you wouldn’t want to copy them – Russia and a model based on corruption? Japan can learn to live with its demographics, but assuming that it can restore 3% economic growth and throwing money away to try to achieve that is a waste of public (and eventually private) money.

      • @Mark Crosby: Apologies, but I’m having difficulty understanding the relationship between the standard macroeconomic framework, in which utility-maximising households and profit-maximising firms, interacting in an environment of sticky prices or wages, provide scope for monetary policy to address shortfalls in aggregate demand by manipulating interest rates, and your argument that “the lack of private investment reflects a lack of confidence in Japan’s economy”, that for the same reason consumers aren’t consuming, that the “[b]ottom line is that a government only driven economy does not work” and that “I don’t believe that firms in that environment will borrow and invest” so monetary policy won’t work.

        You seem to want to have it both ways, to argue that there is an aggregate demand problem (“lack of confidence in Japan’s economy”), which essentially means that the interest rate is stuck above its natural rate, but to also argue that monetary policy that lowered the real interest rate wouldn’t help (“I don’t believe that firms in that environment will borrow and invest”), without explaining the contradiction beyond your claim that “a government only driven economy does not work”. So what if some industries aren’t as productive or competitive as they should be? Why should this prevent full resource use, inefficient as it may be? Your position would be much easier to understand if you simply said that you think that Japan’s problems are purely structural/long-run.

        With respect to government spending, I think it’s worth pointing out the argument, demonstrated by Eggertsson (http://www.newyorkfed.org/research/economists/eggertsson/jmp.pdf), that even in the absence of any conventional multiplier effect, deficit spending can be expansionary by helping to make the government’s commitment to higher inflation more credible, since it provides the government with an incentive to maintain the policy in the longer term in order to reduce its real debt.

        • Isn’t the lack of AD a symptom, rather than a cause of Japan’s problems? And how do “zombie firms” (a la Kashyap et al) and associated issues around overprotection and a lack of competition fit into the standard macroeconomic framework? Its time that macroeconomists gave up on the fiction that all problems can be addressed through appropriate tinkering with AD – sometimes that is going to work, sometimes not. The current Japanese policies to reduce deflation will presumably have the textbook effects on output, though hard to see how these can be anything other than very modest in the absence of more fundamental changes on the trade/competition/productivity front. The problem is that that modest impact comes at the cost of ever rising public debt.

          • @Mark Crosby: Thank you for clarifying your position.

            The economists publicly supporting Abenomics are certainly not arguing that all of Japan’s problems can be fixed by increasing aggregate demand, and there is broad agreement on the need for structural reforms (see, for example, Joseph Stiglitz (http://www.project-syndicate.org/commentary/shinzo-abe-and-soaring-confidence-in-japan-by-joseph-e–stiglitz)). However, these economists obviously disagree with your position concerning the desirability of expansionary monetary and fiscal policy.

            As for inadequate aggregate demand being a symptom rather than a cause of Japan’s problems, obviously Japan’s demographic trends make it susceptible to a situation where full employment requires a negative real interest rate. But inadequate aggregate demand, and consequent stagnation and deflation, are nonetheless a failure of the market to respond optimally to those demographic trends. As Paul Krugman has repeatedly noted, policies designed to create a higher rate of inflation are simply trying to achieve what would automatically occur in a fantasy world of perfectly flexible prices.

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