Articles:
Frustrating Japan

Japan is an endlessly frustrating country for all those who wish that the world’s second largest economy would do better. The sudden resignation on September 1^st of  Prime Minister Yasuo Fukuda after less than a year in office, following the similarly abrupt resignation a year earlier of his also-short-lived predecessor, Shinzo Abe, just added to the frustration—especially as it came only days after news that economic growth had ground to a halt during the second quarter of 2008.

            The economic news is indeed rather depressing for Japan. But this piece of political drama should be looked at in a more positive way. It has the potential to bring a general election closer, and to bring to power a government that will be able to introduce proper economic reforms—which in turn could kick-start the economy again.

This is not inevitable, of course: nothing ever is in politics. But without a general election, there cannot be such economic reforms, as for the past two years government policy has been trapped by a political stalemate, with the two houses of Japan’s parliament each held by different parties, each with blocking majorities.

            That stalemate has been irksome. But it reflected the arrival, at last, of genuine change in Japanese politics. For the real oddity about Japan since its economic troubles began in 1990 has been the failure of opposition parties to seize power from the Liberal Democratic Party, the group that had ruled Japan without interruption ever since 1955. In any other democracy, the ruling party would have been punished severely for its economic and governance mistakes, and new parties and politicians would have risen to replace it in government. Not in Japan: the LDP lost power for a mere nine months in 1993, since when it has had to govern at the head of a coalition but govern it still has.

Now, at long last, the abrupt resignation of Prime Minister Fukuda reflects not the lack of change but the extent of it: the power of the opposition Democratic Party of Japan since the 2007 Upper House elections, which gave it the ability to block legislation, and the likelihood that it could indeed seize power after the next Lower House election, due by September 2009.

The poor Japanese consumer

Politics in Japan is now different, and international opinion has yet to understand or appreciate that fact, and its potential to bring further change once the Lower House elections take place. The economy, however, is not different. The contraction in real GDP seen in the second quarter of 2008 showed that the economy has not changed fundamentally since the 1990s despite having enjoyed seven years of continual growth, described by the government as Japan’s longest period of expansion since 1945.

The recent downturn has been caused by weakness in exports and in capital investment. Some of that drop in investment may well be temporary, as it reflected a drop in residential construction following new building regulations. But exports are likely to remain weak as demand in both of Japan’s two biggest export markets is slowing: import demand is dropping gradually in China, but sharply in the United States. Recent forecasts of slow growth in Chinese industrial indicators such as steel consumption during the second half of this year suggest—if the forecasts prove accurate—that overall Chinese import demand may well weaken further.

What every economist has been waiting for during Japan’s seven-year expansion has been a sign that household consumption could start to grow strongly, as employment and wages rise, taking over leadership of the economy from the export sector and providing a new spur to corporate investment. But this has not happened. Although employment has risen, wages have not. Consumer demand has grown, but only gently. As a result, despite the rapid rise in prices for imported energy and food, deflationary forces still persist in Japan. Now that oil and food prices are falling sharply, deflation may well return.

The economic stimulus package produced by the Fukuda administration a few days before his resignation showed that the LDP still does not understand the state of the Japanese economy.  The main measures in the package were all aimed at helping businesses to increase their output and improve their technology—in other words, to boost the supply side of the economy. Yet Japan’s problem is one of inadequate demand.

The ways in which demand could be boosted include hefty tax cuts, but those would be difficult because of the bad state of the public finances and a reluctance to risk making them worse. An alternative would be a substantial rise in the minimum wage, which would force business to raise wages for the poorest workers and would encourage it to seek ways to improve productivity. Yet that is opposed, not surprisingly, by business groups, despite the fact that Japan’s minimum wage is among the lowest in all the OECD countries.

Such measures are, however, inconceivable until a general election has been held and probably until the LDP loses power. Hence the widespread international perception that Japan is drifting. That feeling of drift is going to last at least until an election has been held, and if the outcome is inconclusive it could persist for even longer.

Japan’s drift does matter. It was a pity, for example, that Japan failed to respond energetically to the global food crisis last year by releasing its large rice stocks on to international markets or in big aid packages to Asian countries that found themselves in difficulty: to have done so could have improved Japan’s diplomatic clout within Asia, relative to China’s. It was also a pity that Japan showed no leadership during the Doha round of negotiations at the World Trade Organisation, before they failed in July. But in neither case was Japan’s reticence a surprise.

A greater impact internationally would arise if the LDP, under a new prime minister, were to react to its poor political prospects and to Japan’s sense of drift by trying to stoke up nationalism and anti-China feelings. One cannot know whether such populism would be the instinctive choice of Taro Aso, a nationalist former foreign minister, if he, the current front-runner, is elected as the LDP’s leader on September 22^nd. But plenty of people outside Japan worry that it might be.