Focusing on Abenomics -Will the “Three Arrows” hit the mark? Will Japan’s economy revive?-

The first of the “Three Arrows” of Abenomics, aggressive monetary policy, sets out the goals of achieving an inflation target of 2% and unlimited quantitative easing. It has resulted in devaluation of the yen on international currency markets and better economic conditions. However, the crucial moment is yet to come. Amid inflationary conditions resulting from the increase in consumption tax and other factors, without an increase in workers’ wages the public’s buying power will decrease. While the Bank of Japan is buying large volumes of Japanese government bonds on the open market, this policy can be said truly to have reached a crucial point that will show whether the funds flowing into the market are finding their way to borrowers and stimulating corporate activities and whether improved business performance will lead to wage increases.
The second arrow “expansionary fiscal policy” involves numerous problems. While the two supplementary budgets included economic stimulus measures such as public works projects, for many of these their effects are open to question. While these economic stimulus measures are described as means of compensating deflationay shock caused by the increase in consumption tax, in fact they can be described as lavish rewards to localities that supported the Liberal Democratic Party in the December 2012 elections to the House of Representatives and the July 2013 elections to the House of Councillors.
These economic stimulus measures, may not be same as ones done in the past, could have the effect of putting pressure on the private-sector economy. A typical example is the case of public works projects, in which an increase in such projects by the government has led to shortages of labor and materials. Shortages of materials and labor cause the prices of these inputs to rise, resulting in pressure on private-sector investment. This phenomenon is known in economics as “crowding out.” In addition, an increase in public works projects outside the areas affected by the Great East Japan Earthquake will have the effect of delaying earthquake recovery efforts.
There is a possibility that public works projects could stimulate economic activity through greater convenience resulting from improvements to roads and bridges. However, in reality these are not the targets of investment. Instead, political forces cause funds to be used on projects offering little return on investment. Politicians direct the gains to their constituencies. Since the effects of economic stimulus measures soon are diluted, it is likely that voices calling for further stimulus measures will strengthen this summer or autumn. Economic stimulus measures are like a drug. While the first and second arrows of Abenomics are intended as temporary measures to bridge the gap until economic growth led by the private sector takes effect, in reality they may instead create a structure under which the private sector is dependent on the government. If so, then there can be little hope of sustained growth led by the private sector.
The Abe administration argues that economic growth achieved through Abenomics could enable fiscal consolidation as well. While it is true that economic growth is necessary for fiscal consolidation, economic growth alone will not be able to consolidate public finance . This is clear because the current deterioration in public finance is the result of past expansionary fiscal policies taken by successive governments for economic growth. The revenue of the supplementary budget for fiscal year 2013 saw an increase of 3.5 trillion yen in the general account, chiefly from corporate tax and income tax, but this was used to fund an increase in annual expenditure instead of debt repayment. Even if the economy recovers, politicians will use up any money that comes into government coffers. While the economy is improving, comparison with the previous government of the Democratic Party of Japan shows that the Abe government has lower levels of fiscal discipline. While I would not deny high growth as a political target, it is considered commonsense in the world to assume cautious rates of growth in budgeting and mid/long-term estimates of public finances. This is because the future involves risks, and overoptimistic assumptions of growth can lead to postponement of difficult reforms.

It is well known that Japan has a massive debt of roughly 1,000 trillion yen, and that that number is increasing from year to year. Why doesn’t Japan collapse like Greece as a result of this massive debt load? It is because more than 90% of Japan’s debt is owed to domestic lenders. Put another way, most Japanese government bonds are financed domestically, so that the government does not rely on borrowing from overseas lenders. However, this is no reason to feel safe and secure. The amount of financial assets held by individuals in Japan is said to be approximately 1,500 trillion yen, but not a few observers have identified the possibility that the national debt could surpass the amount of financial assets held by individuals over the coming five to ten years. In such a situation, the domestic economy’s ability to purchase Japanese government bonds would disappear and Japan would have to borrow from overseas. That would mean that the current account balance, an indicator of Japan’s economic transactions with foreign countries, would fall into deficit. While a current account deficit would not mean an immediate crisis, what would be problematic is the question of whether overseas investors would lend funds to Japan at low interest rates. While the United States currently has a current account deficit, it is not experiencing an economic crisis. This is because of the high regard for the dynamism and growth potential of the U.S. economy, which leads foreign investors to lend it money. But what about Japan? Although it has the world’s third largest economy, its society is ageing and its working population is decreasing at an accelerating pace. Under such conditions, would foreign investors believe in the growth potential of Japan enough to lend it money when its current account is in deficit? Regrettably, I doubt they would. Points common to countries such as Greece that have faced crises due to worsening public finances are current account deficits, rising interest rates, and the inability to finance budget deficits.

The biggest doubt one feels about the growth strategy concerns the fact that it is unclear whether its individual policies truly will contribute to Japan’s growth. For example, why should expanding the scope of advanced medical technologies that can be used together with treatment covered by health insurance or shifting to electronic medical records lead to economic growth? Another questionable policy is that of creating National Strategic Special Zones, one of the strategy’s headline policies. Without rejecting that idea itself, I wonder whether deregulation and other efforts targeting a single region alone can be expected to increase growth nationwide. Many of the other policies also leave one with doubts as to why they would increase growth. This is because the cause-and-effect relationship between the policies and growth is unclear, and they lack analysis of the problems preventing Japan from growing. For example, if a patient complains of a headache the doctor will identify the cause of the headache and then write a prescription to eliminate that cause. This is because it is impossible to cure the illness without identifing its cause. On the other hand, the growth strategy appears simply to be an exercise in writing prescriptions without making clear the true reasons for or causes of Japan’s inability to grow. This is because the large number of policies described in the growth strategy is merely a budgeting wish list for government agencies. They cannot secure budgets—in other words, money—without offering some kind of prescription. While the strategy brings together a number of plausible policies, in essence they simply represent compilations of materials provided by each government agency. The true essence of a growth strategy must consist of making clear the problems preventing Japan from growing and then investing resources on these in a prioritized, focused manner.
Let’s take a look at the Plan for Growth adopted by the United Kingdom in 2010. This plan proposed four strategies: “(i) to create the most competitive tax system in the G20; (ii) to make the UK one of the best places in Europe to start, finance and grow a business; (iii) to encourage investment and exports as a route to a more balanced economy; and (iv) to create a more educated workforce that is the most flexible in Europe.” It also adopted key performance indicators (KPIs)* to measure the degree of achievement on each of these targets. The specific measures for achieving these were practical measures with clear schedules, and the plan included budget amounts as well. In sum, rather than simply a list of the things each government agency wanted to do, like Japan’s growth strategy, the U.K.’s plan identified feasible measures needed to promote growth. It also included analysis of the current conditions of each industrial area, including competitive conditions and regulations. While it remains unclear whether the U.K.’s Plan for Growth will succeed, I think it is clear that there is a huge difference between it and Japan’s growth strategy. A growth strategy intended as fiscal stimulus or to secure budgeting is putting the cart before the horse.

* Quantitative indicators used to measure the degree of achievement of goals