HIKONE, SHIGA PREF. – This is a follow-up to my column of last month. At its Policy Board meeting Jan. 29, the Bank of Japan decided to inject into the financial market a powerful drug in the form of a negative interest rate. The actual implementation of that measure came on Feb. 16.
The purpose of introducing the negative interest rate was to help achieve a pledge made March 21, 2012, by BOJ Gov. Haruhiko Kuroda to raise the rate of inflation to an annual rate of 2 percent in about two years.
The central bank subsequently pursued quantitative and qualitative easing of its monetary policy through unlimited purchase of government bonds from private financial institutions. But no appreciable results have ensued, even though nearly three years have passed.
Indeed, the consumer price index (not including fresh foodstuffs) rose only 0.5 percent in 2013. The index has unexpectedly continued to remain at a low level. The corresponding figure for 2014, which took into account the consumption tax rate rise of 3 percentage points from 5 percent to 8 percent that took effect April 1 of that year, was 2.8 percent and the figure for 2015 was 0.8 percent.
Meanwhile, household consumer spending in real terms, which grew by more than 2 percent in fiscal 2013, helped by a last-minute buying binge in anticipation of the consumption tax hike, contracted by about 2.5 percent in fiscal 2014. The consumer price index growth rate for fiscal 2015 is estimated to come down to around zero.
It is no exaggeration to say that household consumer spending has not grown at all even though three years have passed since Prime Minister Shinzo Abe announced his Abenomics economic policy.
Although the instantaneous visible effect of “easy money policy of unconventional dimensions” was a boost in stock prices and a reduction in the value of the yen currency, these trends were completely reversed after the turn of the year as share prices plummeted and the yen appreciated upward.
The BOJ Policy Board decided to introduce the negative interest rate — a powerful drug — presumably in the belief that reversing those trends once again was essential to achieving the inflation target.
Contrary to the bank’s expectations, however, this powerful drug has rather accelerated those tendencies.
Let’s trace things back to thee years ago when Abe unveiled in a flashy manner the “three arrows” of his Abenomics: bold monetary policy, flexible fiscal policy and growth strategy to induce private-sector investments.
According to the logic of reflationary economists, the first arrow of bold monetary policy alone would have brought an end to deflation. Contrary to their thinking, however, the grand-scale social experiment over the past three years has all but proven that the first arrow alone was not sufficient to bring about the heralded “virtuous circle.”
With regard to the second arrow of flexible fiscal policy, investments in public works projects did increase significantly in fiscal 2013 but have since been on the wane. The multiplier effect of public investments is now barely above 1.0.
This was in stark contrast with the period of high economic growth in the 1960s when public investments stimulated household consumer spending, private housing investments and corporate capital investments in the private sector and thus enabled gross domestic product to grow by a margin that was more than twice the amount of public money poured into public works projects.
As this “age of naive Keynesianism” has come to an end and the nation’s fiscal balance is in the red, the government should refrain from investing heavily in public works from the standpoint of cost effectiveness.
Fiscal policy measures adopted so far under Abenomics have been limited to tax reforms such as raising the consumption tax rate, a gift tax exemption for a person receiving money from their parents or grandparents to purchase a residence or spend for education, and reducing the corporate tax rate.
Not a few economists point the finger of blame at the consumption tax hike of April 2014, calling it a major cause of the failure of Abenomics. Although it has been touted that reducing the corporate tax will improve businesses’ international competitiveness, stimulate capital investments and lead to wage increases for workers, the overall effect of the corporate tax reduction is hard to predict because the cut was accompanied by an increase in the pro forma standard tax to make up for the decline in tax revenues.
Three years into Abenomics, the government has yet to fire the third arrow, namely, a growth strategy to spur private-sector investments. One of the reasons that the negative interest rate, which was aimed at shoring up stock prices and devaluing the yen, has so far brought about effects opposite what was hoped is insufficient demand for funds among businesses and households.
Commercial banks, which don’t want to pay a penalty to the BOJ in the form of negative interest for part of their current account deposits at the central bank, have no choice but to withdraw money that is above the ceiling.
What is best for the banks is that they can immediately lend the money withdrawn from the BOJ. But the trouble is that those banks are having a hard time finding low-risk businesses willing to borrow money, no matter how low the interest rates are set. Blue-chip companies have retained such huge internal reserves that they don’t need bank loans for capital investments.
Moreover, with exports stagnating and domestic consumption sluggish, the private sector is far from eager to make capital investments. The principal factor that has prevented the easy money policy of unconventional dimensions from producing tangible results is the fact that the third arrow has not yet been fired.
In short, the three arrows of Abenomics are so mutually complementary to each other that it is essential for all three to be fired simultaneously if the so-called virtuous circle is to be achieved.
Lowering interest rates through easy money policy doesn’t by itself impel corporations to step up capital investments. Reflationary economists maintain that monetary easing alone is enough to make things go well. But they are wrong. Only when a synergy is achieved between easy money policy and a growth strategy to stimulate private-sector investments can the engine of a virtuous circle get started.
Why has the firing of the third arrow been delayed so long? The reason is simple. In an economically mature country like Japan, there hardly exists any strategy that would have an immediate effect of making the economy grow.
Encouraging innovation, reforming the national universities, deregulation, creating special economic zones — these and other growth strategies are devoid of specific details and immediate effectivity. Nor is it easy to see what long-term effects they will have.
In January 2013, the government created the Council for Industrial Competitiveness, handing it the heavy responsibility of drawing up a prescription to restore the competitiveness of Japanese industry, which has of late lost steam compared with decades ago. Yet even though three years have passed since its creation, the council has yet to come up with any eye-opening proposals and Japanese industry continues to lose its competitiveness. The waning of competitive power is testified to by the sluggishness in the growth of volume-based export of Japan’s manufactured products despite the rapid fall of the yen’s value.
Moreover, the Japanese manufacturing industry lags behind its European and American counterparts in the on-going “Industry 4.0” revolution aimed at developing unmanned production processes with full utilization of the Internet and artificial intelligence.
Particularly conspicuous is a decline of the Japanese electronics industry. During the first half of the 1990s, this sector earned a trade surplus of ¥8 trillion to ¥10 trillion a year, surpassing the auto industry. In 2013, however, its trade balance plunged into the red as the deficit incurred by industrial sectors related to computers and communications apparatuses has wiped out the trade surplus produced by the electronic components sector.
Perhaps the only way to resuscitate the Japanese economy is to catch up with countries of the West in Industry 4.0. As stated earlier, however, dark clouds hover over its future because of the decline of its electronics industry.
Takamitsu Sawa is president of Shiga University.