Abenomics scorecard: ‘A’ for early initiative, ‘C’ for follow-through

Abenomics scorecard: ‘A’ for early initiative, ‘C’ for follow-through

Sun, Dec 15 2013

By Tomasz Janowski and Yoko Kubota

TOKYO/DAITO, Japan, Dec 16 (Reuters) – One year into Prime Minister Shinzo Abe’s economic revival plan the message from Japan’s industrial heartland and economists is clear: he has yet to act on his pledge to stage the nation’s comeback as a global economic dynamo.Abe’s recipe of massive money printing, fiscal stimulus twinned with longer-run consolidation and pro-growth policies has already made it into economic vernacular as “Abenomics” and won praise for its initial “print and spend” stage.

But the longer it takes for Abe and his team to follow through with powerful incentives for businesses to take chances, innovate and grow, the bigger the risk that Japan will slide back into stagnation that has dogged it for the past two decades. And with more debt than ever.

The first two arrows of Abe’s “three arrow” plan reversed crippling yen strength, buoyed market and business sentiment, got prices moving up after 15 years of deflation and set Japan on course to outpace most of its peers for two years in a row.

Yet Abe swept to power on Dec. 16, 2012 promising much more, namely to defy the gravity pull of Japan’s ageing and shrinking population with sweeping reforms to secure sustained, broad-based growth that has eluded Japan for two decades.

On that count Abenomics has barely left the starting blocs.

A trip to Japan’s western manufacturing hub around Osaka shows there is a long way to go before the benefits of Abenomics start trickling further down from exporters, shareholders or high-end retailers.

“We just frown when we hear about Abenomics on the news over lunch. We’re not feeling any effects of it,” says Shigeru Yamada, 50, president and owner of Yamada Manufacturing in Daito in Osaka prefecture that is home to industrial groups such as Panasonic and Sharp and an ecosystem of smaller suppliers.

Yamada says his firm has replaced a 24-year-old metal folding machine with a new one, its first big investment in seven years, and will be receiving state assistance for that under a simplified government subsidy scheme. Beyond that, nothing has changed for the small family firm that employs 15 people and has won awards for perfecting its production process.

The company expects a loss this year and it has yet to see big manufacturers’ optimism reflected in its order books, meaning no pay increases any time soon.

NEGLECTED ENGINES OF GROWTH

Small and mid-sized firms account for 70 percent of Japan’s corporate jobs and 40 percent of the value of manufactured goods and parts, so growth will suffer for as long as many of those businesses struggle.

And Japan needs growth to maintain high living standards, cope with swelling ranks of pensioners and the world’s biggest public debt burden worth nearly 2-1/2 years of its economic output that looms large over its financial system.

To that end, Abe’s government targets real growth of 2 percent per year, more than double the average over the past two decades and more than double Japan’s present potential — or the speed at which an economy can grow without excess inflation.

In economists’ terms that potential can rise only as a result of an increase in capital, labour or greater productivity in using them.

The International Monetary Fund reckons 2 percent is possible provided Japan tackles all three with deregulation, tax and labour market reforms, bringing more women and elderly into the workforce and easing curbs on immigration.

“If everything that we are suggesting is introduced as a package then medium term potential growth could increase from around 1 percent to 2 percent,” said Giovanni Ganelli, senior economist with the IMF Asia-Pacific office in Tokyo.

That is a big if.

Sceptics say demographic headwinds are so strong — the 18-24 age group is a third smaller than two decades ago — that nothing short of a miraculous burst of innovation will do, given significant immigration remains a political and social taboo.

But while Abe has been telling audiences from London’s City to Wall Street that “Japan is back”, at home many plans aimed at lifting the economy’s metabolism have been watered down, delayed or shelved.

THE HARD YARDS

Asked what the Abe administration has done so far to benefit Japan in the long-run, most economists point to decisions to join talks on the U.S.-led Trans Pacific Partnership (TPP) free trade pact and to raise sales tax next April.

The TPP is expected to open some new markets for Japan but also bring more competition at home while the tax hike marks a first serious step to address the sorry state of public finances, a major source of uncertainty.

The Bank of Japan’s monetary stimulus can also help boost long-term growth if it succeeds in defeating deflation, economists say.

“The inflationary environment makes it easier for companies to invest, hire and produce,” said Masahiro Kawai, head of the Asian Development Bank Institute in Tokyo.

Some economists also mention the government’s efforts to shorten waiting lists at day-care centres to allow more women to return to the workforce, though many say much more is needed, including further changes in the tax code and corporate culture.

But the list of disappointments is far longer.

Nomura Securities economists estimate the government’s growth strategy will add just over 0.3 percent to annual output by 2020 — not exactly the comeback Team Abe has been promising.

Scant progress in tackling labour market rigidities and a deep divide between well protected regular workers and a growing army of temporary and part-time staff tops the disappointment list.

Japan’s labour productivity, at less than two-thirds of U.S. levels, offers ample room for improvement but companies must first feel more comfortable to hire and train staff.

“Corporations are afraid to go into new areas in Japan because once they hire people it is almost impossible to fire them,” says Tomo Kinoshita, chief Japan economist at Nomura Securities.

Yet a proposal to test labour liberalisation in special economic zones got struck out from the final plan.

Decisions on two other items high on corporate wish lists have been pushed back: a cut in corporate tax, now one of the highest in the OECD, and social security reform.

“If anything there’s re-regulation happening now,” says Takuji Okubo, chief economist at Japan Macro Advisors. He says he learned it first-hand this year when he applied for a subsidy for start-ups as founder of his research boutique.

“The growth strategy is just a way to let the bureaucrats tell businesses how to spend the money.”

Grading Abenomics, one year on

BY KOICHI HAMADA –

5 HOURS 6 MIN AGO

It has been almost a year since Prime Minister Shinzo Abe (picture) launched his plan to lift Japan’s economy out of two decades of deflation and recession. How has Abenomics fared so far?

Answering this question requires breaking Abenomics down into its three components — massive monetary easing, expansionary fiscal policy and a long-term growth strategy — which Mr Abe, referring to the tale of Motonari Mori, a sixteenth-century daimyo (feudal lord), calls the “three arrows”.

According to legend, Mori instructed each of his three sons to snap an arrow in half. After they had succeeded, he told them to tie three arrows together, and break the whole bundle at once; none was able to do it.

Like Mori’s three arrows, the three arrows of Abenomics are supposed to reinforce one another. But Mori’s arrows were bound together in parallel, whereas Mr Abe’s policy arrows are connected through underlying structural relationships.

While the first and second arrows aim to transform Japan’s actual growth path, the third operates on the economy’s potential growth path, which assumes the optimal use of all available resources and technologies.

FIRST ARROW: BULL’S EYE

Since Abenomics was launched, the “deflation gap” (the difference between actual and potential output) has dropped from roughly 3 percentage points to below 1.5. This implies that, while the first two arrows are helping to improve Japan’s actual growth path, the third arrow has yet to do much for potential growth.

In fact, since Mr Abe’s first arrow took flight, Japan’s stock market has soared with it, recording an unprecedented 40 per cent annual gain, while the yen has depreciated against the dollar by 20 per cent, boosting Japanese firms’ export competitiveness.

Moreover, credit growth has accelerated and asset prices have risen — trends that will encourage consumption by triggering the wealth effect (when people spend more because they feel richer). And monetary expansion is also having a positive impact on the labour market: The unemployment rate has fallen to 4 per cent, and the job-to-applicant ratio is nearing parity.

With real gross domestic product growth around 4 per cent in the first half of the year (though it did fall below 2 per cent in the third quarter), the first arrow has already hit the bull’s eye — a performance worthy of an A+.

SECOND ARROW: B

The second arrow entails a sharp increase in short-term fiscal expenditure, especially investment in infrastructure projects.

While those who, like me, adhere to the Mundell-Fleming framework (according to which fiscal stimulus will be offset by the resulting increase in capital inflows, currency appreciation and reduced export competitiveness) do not stress the impact of flexible fiscal policy, Keynesians take it very seriously. On the assumption that faster growth will neutralise any threat to debt sustainability, the second arrow receives a B.

When the first and second arrows lift actual growth above potential growth, monetary expansion will no longer be able to produce substantial GDP or employment gains.

That is when the third arrow, which aims to boost Japan’s potential growth through structural change (including increased private investment, technological innovation, improved trade links and reformed corporate-tax policy), will become far more important.

THIRD ARROW: E FOR EFFORT

Mr Abe has set out the vision behind his long-term growth plan. “Japan is a country that challenges, that is open and that innovates,” he says. But many of the details of his strategy remain uncertain.

Japan’s long-time approach to industrial policy, in which the Ministry of International Trade and Industry (MITI) provided support and subsidies for selected industries, helping them to compete in world markets, is now obsolete (indeed, the MITI’s role was taken over by the Ministry of Economy, Trade and Industry in 2001).

When Japanese firms operate at the frontier of industry, bureaucrats cannot choose the winners. Given this, the government’s role should be confined to areas where externalities exist, such as carbon-emissions reduction.

Unfortunately, a new, clearly defined approach to industrial policy is still missing. In fact, descriptions of some third-arrow projects seem to be based on little more than wishful thinking, with new technology or know-how apparently expected simply to fall into Japan’s lap.

A more effective approach would entail achievable, concrete goals like relaxing labour- and financial-market regulations, reducing corporate income taxes, liberalising trade by joining the Trans-Pacific Partnership and perhaps easing immigration policy.

The problem is that bureaucrats like the power that regulation affords them. Indeed, deregulation would require them to put their country’s long-term interests above their own short-term interests — a choice that they have so far resisted. To paraphrase John F Kennedy, it is time for Japan’s leaders to ask not what their country can do for its government, but what the government can undo for its country.

In this context, the third arrow of Abenomics cannot yet be fairly assessed. While its impact has so far been lacking, it certainly cannot be deemed a failure, with Japan’s top leaders still working tirelessly to build the needed momentum. The most appropriate grade is therefore an E for effort.

One hopes that it is an effort that proves adequate to overcome bureaucratic resistance to deregulation in the coming year.

With an A+, a B, and an E, Abenomics’ first-year report card reflects important progress, providing plenty of reason for enthusiasm. It even spells its originator’s name. PROJECT SYNDICATE

ABOUT THE AUTHOR:

Koichi Hamada, Special Economic Adviser to Japanese Prime Minister Shinzo Abe, is Professor of Economics at Yale University and Professor Emeritus of Economics at the University of Tokyo.