Japan’s Malaise: A Comment

Abstract

For Japan, the 1990s was a lost decade. What caused Japan’s star to fall so low, so fast? Most analyses of Japan’s economic malaise since the 1990s emphasize domestic factors. The main arguments blame the non-performing loan problem in the banking sector and/or Japan having slipped into a “liquidity trap”. These arguments point to monetary solutions to Japan’s crisis. More extreme views are that Japan’s woes are the result of a failed model and that thoroughgoing reforms of its domestic economic structures are required. External factors such as the high yen have not been ignored in the mainstream discussion of Japan’s malaise, but neither have they generally been seen as the critical factors. This paper takes, as its point of departure, the observation that the last period when Japan had what might be termed a “normal” economy was the first half of the 1980s, prior to the steep appreciation abetted by the Plaza Accord. The transformation of Japan under the pressure of a high exchange rate is shown to be at the heart of Japan’s long-running malaise. Alternative theories such as the burst bubble/bad assets in the banking system, and excessive savings due to rapid population ageing are examined critically. The role that Japan’s trade policies may have contributed to this outcome by resisting a swing of the current account into deficits is highlighted. The conclusions point to Japan requiring a substantially lower exchange rate than is often thought; at the same time, a significant yen depreciation could only be contemplated as part of a trade deal that opens Japan’s markets to imports. This points to a trade and exchange rate solution to Japan’s problems.