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Third branch of Abenomics

On Jan. 7, only 12 days after being named prime minister, Shinzo Abe was greeted with big applause from business leaders when he spelled out the “three-arrow” basic components of his economic policies, known as Abenomics — an aggressive monetary policy, flexible fiscal spending and a growth strategy aimed at generating private-sector investments.

The occasion was an annual new year party sponsored by three major economic organizations: the Japan Business Federation, the Japan Chamber of Commerce and Industry, and the Japan Association of Corporate Executives.

The draft supplementary budget adopted by the Abe Cabinet on Jan. 15 was the second largest of its kind on record, featuring additional spending of ¥13.1 trillion. What’s all too clear is a shift “from people to concrete” with the emphasis on large-scale public works projects.

The extra budget brings total government spending in fiscal 2012 to ¥100.4 trillion. An additional ¥7.8 trillion worth of new government bonds will be issued to finance the supplementary budget, putting new bond issuance in fiscal 2012 to ¥52 trillion. The new debts account for as much as 51.8 percent of the total revenue for the year.

Princeton University professor Paul Krugman, the 2008 Nobel Prize winner in economic sciences, stated in his 2012 book “End This Depression Now” that what is needed to put an end to the recession triggered by the 2008 collapse of Lehman Brothers is to pursue the standard Keynesian stimulus formula, with the government aggressively mobilizing fiscal stimulus financed by deficit-covering bonds, and the central bank supporting the effort through monetary easing.

In the aftermath of the Lehman Brothers shock, most countries have resorted, in varying degrees, to more fiscal spending and easy monetary policies. But Krugman argues that those efforts have not gone far enough. Increased government spending naturally expands fiscal deficits. While government bonds are purchased by financial institutions including commercial banks, the central bank repurchases the bonds, thereby achieving a quantitative easing of the money market.

If you follow Krugman’s theory, the only way Japan, the United States and European economies can escape the recession of the post-Lehman Brothers shock is for the governments to drastically boost fiscal spending. Abenomics diligently follows “Krugmanomics.” I have long considered Krugman the most influential economist today, an assessment confirmed by the emergence of Abenomics.

A majority of Japanese economists advocated market fundamentalism and “small government” during the reign of Prime Minister Junichiro Koizumi in the early 2000s. It is pretty disgraceful and shameful that they now appear to have converted to Abenomics or Krugmanomics.

As John Maynard Keynes himself once said, the depression in the U.S. in the 1930s lingered because job creation efforts through fiscal spending under the New Deal policies were far from sufficient. After President Franklin D. Roosevelt was re-elected to a third term in 1940, Congress passed the Lend-Lease Act the following March, authorizing the government to lease weapons to the Allies and paving the way for the U.S. to enter World War II.

It appears true that the U.S. finally managed to put an end to the protracted depression through a steep rise in military expenditures following the decision to enter the war. Ending the depression might not have been the motivation for Roosevelt’s entering the war, but there is no denying that involvement in the war necessitated a sharp increase in government spending.

Consumer spending in turn rebounded with the creation of millions of military-related jobs while the huge sums of money poured into weapons production not only brought prosperity to the defense industry but also caused a wide-ranging ripple effect on many other sectors.

By participating in the war, the U.S. gained the unintended benefit of a full-scale economic recovery through further expansion in government spending that made up for the inadequacy of the New Deal programs.

In Japan, the need to put together new spending for reconstruction in areas hit by the March 11, 2011, earthquake and tsunami created opportunities — perhaps comparable to the one created by U.S. entry into WWII — to increase fiscal expenditures enough “to finally silence the fiscal conservatives and open the recovery door.”

Indeed, a total of ¥15 trillion was earmarked in three supplementary budgets for fiscal 2011, plus ¥3.8 trillion in the initial budget for fiscal 2012. This compares with the ¥90.3 trillion general account budget for fiscal 2012. Although a number of projects had little to do with reconstruction, such as spending on nuclear fusion research, the spending must have contributed more or less to reviving the economy.

The nearly ¥20 trillion is equivalent to more than 4 percent of the nation’s fiscal 2011 nominal GDP of ¥473 trillion. Japan’s GDP growth in nominal terms for fiscal 2011 came to minus 1.4 percent, and nominal growth for fiscal 2012 is likely to remain in the negative territory.

The latest ¥13.1 trillion extra budget features about ¥10 trillion in public works spending, including expenditures linked to post-Great East Japan Earthquake reconstruction such as the repair of aging public infrastructures, construction of infrastructure for anti-disaster purposes and measures to secure energy supplies — in line with the Liberal Democratic Party’s stated goal of building a nation that is resilient to natural disasters.

The Cabinet Office has issued an outstretched and optimistic estimate that the extra budget will push up fiscal 2013 GDP by 2 percent in real terms and create 600,000 jobs, given that the ¥10 trillion in public works spending is equivalent to roughly 2 percent of the nation’s real-term GDP of ¥513 trillion in fiscal 2011.

Assuming that the inflation target of 2 percent set by the Bank of Japan will be achieved, the economy must grow by 4 percent nominally for GDP to see real growth of 2 percent. If the yen becomes even lower against other currencies, increased costs for fuel and food imports could offset export manufacturers’ gains.

A jump in long-term interest rates as a result of aggressive fiscal and monetary policies might put downward pressure on corporate investments and consumer investments in housing. Inflationary expectations cannot be expected to drive up consumer spending very much.

Given that the nation’s potential for growth itself has extremely weakened, we have to realize that fiscal and monetary policies will do little to stimulate growth.

What is needed is to implement as quickly as possible the “third arrow” of Abenomics — a growth strategy to encourage private-sector investments.

Takamitsu Sawa is president of Shiga University.

  • itoshima2012

    “Abenomics” is “back to the future” it only shows that Japanese politicians are stuck in the past. The massive Japanese debt is already unmanageable and Abe keeps piling on…. A mix of economic wisdom and just plain common sense tells us that what Japna needs is a massive overhaul of its social and economic structure. A big push for gender equality getting this more women into work, stopping the zero/negative interest age so that zombis businesses go under and new sprouts of viable businesses can start to flourish, overhaul the tax system by balancing it with heavy cuts in expenditure (once you’ve been to a Japanese city hall you know what waste means….) and by increases of taxes in some selected areas. Reduce public borrowing and since at least for the moment most debt is owned to Japanese consider a hair cut because it has reached levels that if not managed drastically will mean Armageddon in the coming 12~24 months. But again, the Japanese public, or at least the one that voted for Abe (mostly pensioners or people close to pension age) still think that some magic will save them and no pain will be felt… well, I can’t predict anything but maths doesn’t lie and the day of reckoning for Japan is long overdue….

  • Ghangstalked

    .

    May I suggest that the growth strategy that is most needed is an initiative to boost the birth rate well above replacement?

    This would avoid many looming problems and be very easy to implement.

    Thank you.

    .

  • http://www.facebook.com/jeff.takada Jeff Takada

    The author has it right on. Growth to encourage private-sector investment. The Abe administration is merely compounding massively the fiscal and monetary mistakes of the past 20 years. In fact, Japan will be lucky to evade a collapse of the yen in the wake of a bond default. Has any one of these Krugmanite experts taken out a solar-powered Hello Kitty calculator and figured out what (necessarily) 2% compounding inflation will do to the money supply? None of that is growth – as the author points out, it merely retards growth and utterly ruins the savers who have been the backbone of Japan’s strongest growth years. Monetizing debt is a path to ruination. The savers and elderly of Japan would be well advised to send a jolt to these BOJ stealth thieves by converting savings from yen to gold.