Getting Japan Back on the Sustainable Growth Path: Lessons from the Koizumi Era

Abstract

I examine the Koizumi Junichiro era in Japan to derive lessons for the current Abe Shinzo administration that vows to get Japan back on the path of sustainable growth. Standard growth theory identifies total factor productivity (TFP) as the key to sustainable growth. The existing empirical evidence clearly indicates that economic recovery during Koizumi's tenure was accompanied by robust growth of TFP. To account for this improvement in TFP performance, I focus on developments during Koizumi's term: promotion of competition by introducing market discipline to various sectors of the economy, effectiveness of market entry and exit, and use of foreign competitive pressure to enhance domestic efficiency. KEYWORDS: Japanese economy, Koizumi Junichiro, Abenomics, total factor productivity.IN THE MIDST OF MOUNTING FEAR OF A THIRD LOST DECADE OF growth for Japan, newly elected prime minister Abe Shinzo aptly placed the priority of his first cabinet on reviving the economy following the landslide victory of his Liberal Democratic Party (LDP) in the general election of December 2012. His government has unveiled three of his economic program, dubbed Abenomics. The first two arrows involve pursuit of a dramatic regime change at the Bank of Japan as well as big fiscal spending to reflate the economy and jump-start its growth. Although these expansionary macroeconomic policies have thus far been effective in giving an initial boost to aggregate demand and reversing the deflationary trend, their initial impact may already be waning. In order to get the economy firmly back on a sustainable growth path, the Abe administration has yet to fill in the third arrow before its first two arrows eventually fizzle out.According to standard growth theory, total factor productivity (TFP) is the key to long-term economic growth as its growth rate represents the slope of the steady-state growth path. Economic growth is not sustainable and is destined to wind down if it is not accompanied by TFP growth. Therefore, the theory suggests that in order for Japan to have a successful growth strategy, the third arrow of Abenomics should aim at improving the country's TFP. Since reform proposals offered so far in Abe's two attempts to shoot the third arrow were generally viewed as modest and ambiguous, the third arrow obviously requires a more focused approach so that it clearly demonstrates the potential to liftthe country's TFP.I argue that Prime Minister Abe may not have to look further than the immediate predecessor of his earlier term in office to find valuable lessons for his growth strategy. Under the premiership of Koizumi Junichiro (2001-2006), Japan was poised to exit its long-running recession and head toward sustainable growth. To be sure, Koizumi's term was never free from controversy and is still the subject of frequent criticism. However, careful analysis of this period through the lens of standard economic growth theory reveals interesting policy implications.The Japanese Economy Under KoizumiKoizumi the Reformer?One word that was never in short supply in public discourse throughout Koizumi's term was reform. Entering the race for the premiership in 2001, Koizumi presented himself as a true reformer who would pull Japan out of its economic malaise. He pledged to put an end to the bad debt problems of the banking sector, clean up the decadelong financial mess, and stand up to the entrenched government bureaucracy by (among other things) privatizing the country's postal savings system.Koizumi was not the first prime minister to talk about the country's need for structural reform. The Big Bang in the Japanese financial sector had already started as early as November 1996 when then Prime Minister Hashimoto Ryutaro announced wide-ranging financial deregulation measures. In fact, deregulation was already high on the policy agenda under the premiership of Murayama Tomiichi, a predecessor of Hashimoto. …