1998 Reports

Japan's Economic Mess

Lincoln, Edward J.

Japan has experienced very slow economic growth, a large bad problem, and an outbreak of economic scandals in the 1990s. This paper analyzes what has gone wrong with Japan, both in terms of macroeconomic performance and financial sector problems. The macroeconomic malaise is the direct result of the excesses of the bubble--especially the collapse of stock market and real estate prices in the 1990s. But the government exacerbated and prolonged the problem by raising taxes substantially in 1997 just as the economy was beginning to show signs of recovery. The financial sector bad debt problems are also an obvious outcome of the collapse in asset prices, but were also an inherent danger in Japan’s bank centered financial center. The paper argues that the financial system, which may have been useful or at least workable, in earlier postwar years, had atrophied, leaving bankers less attentive to evaluation of borrowers. In addition, the system may have always involved a certain amount of corruption which worsened in the 1980s and 1990s. This situation cries out for vigorous and thorough reform, principally through failure of insolvent institutions and imposition of extensive deregulation. However, much of government policy remains very disappointing. The Ministry of Finance continues to permit financial institutions to hide their problems, does not favor more bankruptcies, and is not pressing deregulation with any vigor. The “big bang” financial reforms are a useful move on the surface, but the reality once the entire process is completed will be far less helpful than commonly supposed. Overall, the present problems and the government’s response to them remain quite disappointing.