Just before the recently elected Japanese government released its new 10-year growth strategy, two top policymakers locked horns in a sterile economic debate. Heizo Takenaka, economic advisor to former Prime Minister Junichiro Koizumi, said the chief priority should be business-oriented supply-side measures to generate new wealth. Naoto Kan, the new deputy prime minister and finance minister, stressed the need to boost demand and help consumers. Arguing that the Koizumi cohort had failed, Kan said that companies would neither hire new workers nor boost capacity if they couldn't sell their output.
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In the end, Prime Minister Yukio Hatoyama took Kan's approach, saying, "[The past government] was biased toward the supply side, and we intend firmly to generate demand." His government set goals of 2 percent GDP growth per year for the next decade and the creation of 4.76 million new jobs in fields like elderly care, health, the environment, tourism, and exports. The problem is that his "growth strategy" includes neither growth nor strategy. It lists targets but offers no means to achieve them.
Moreover, the goals themselves are off base. Hatoyama set a target of 2 percent per year GDP growth, starting from a 2009 baseline. But from 2007 through early-2009, the recession slashed GDP by a remarkable 9 percent. If the Japanese government based its goal from the pre-recession GDP levels -- as it should have -- its GDP target for 2020 works out to just 1 percent growth per year, a truly dismal rate. The targets on the jobs side are equally off. Over the next decade, the country's working-age population will plunge by 7.6 million people, or 10 percent, and the number of retirees will rise by 6.5 million. How can the Hatoyama administration promise 4.8 million additional jobs when Japan won't have the workers to fill them? No one expects a rush of immigrants or women into the workforce to counter this trend.
For Japan to revive, it has to move beyond Kan and Takenaka's false supply-side, demand-side dichotomy. As famed economist Alfred Marshall pointed out more than a century ago, scissors need two blades: supply and demand. Japan has trouble growing because both blades are so banged up that neither cuts very well. Plus, each blade's dullness worsens the other.
For 30 years, Japan has been afflicted with a chronic shortfall of demand, a kind of economic anorexia. Consumer spending is too low, mostly because household income is too low. Over the last decade, real wages per worker have fallen every year but one. The only reason consumption has risen is that households have slashed their once-legendary savings rates: from 17 percent in 1980, to 10 percent in 1997, to 2.3 percent in 2008. If people earned more, they'd spend more.
To make up this shortfall, decades of Liberal Democratic Party (LDP) governments used artificial stimulants: mammoth budget deficits, rising trade surpluses, and monetary steroids to gin up often-wasteful business and infrastructure investment. The unsustainability of this strategy came home to roost in the recent recession, when a collapse of exports and accompanying investment sent GDP southward. This collapse abruptly erased 70 percent of the recovery eked out since late 2001.
With the economy now operating 7 percent below capacity and economists worried about a relapse in 2010, the newly elected Democratic Party of Japan (DPJ) turned immediately to measures to increase demand. It proposed a good initial remedy: boosting household disposable income, partly by measures making it cheaper to have children. Instead of building more of the LDP's notorious "bridges to nowhere," the DPJ proposed spending around 21 trillion yen, 4 percent of GDP, on measures such as an annual rebate of $3,250 per child, reimbursement for high-school expenses (which even at public schools can amount to $5,000 per year), free child-age medical care, and tax cuts.
Unfortunately, the DPJ evaded the issue of financing its largesse. Its talk of cutting wasteful spending to come up with the funds proved hollow. As a result, the DPJ has already cut back or postponed some of these measures. Moreover, the DPJ has not offered a remedy for the structural defects in private labor and capital markets that produce such low household income in the first place.
The DPJ's difficulty in financing its programs brings up the supply side of the scissors. Japan will never find the resources to boost household income, support the elderly, and address its gigantic government debt unless it accelerates per capita GDP growth, hikes the tax base, and increases returns to investment.
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