A few months ago, members of Japan’s ruling coalition of the Liberal Democratic Party, New Komeito and the New Conservative Party encouraged the government to take steps to prop up the stock market. They also urged the government to accelerate spending from the public-works reserve fund of 500 billion yen that is earmarked in the fiscal 2000 budget. And they further recommended that appropriate measures be taken to prevent the yen from fluctuating rapidly. Happily, most of this advice was disregarded.
As evidence that truly bad arguments never disappear, LDP officials are again urging various forms of intervention to prop up the sluggish stock market. Even if the government decided it was the right thing to do to shore up stocks, it remains uncertain whether such action would ultimately prove an exercise in futility. It is more likely that such interventions would only make matters worse.
One of the downsides of the proposed intervention would be the slowing down of elimination of cross-shareholdings by banks and firms. This could be accomplished through the creation of tax disincentives regarding such share sales, including the withholding tax on capital gains on stock trading. However, such a move would undermine the commitment to move toward a banking system that is both transparent and market-oriented.
Another suggestion was to ease accounting rules that would show improved corporate earnings. But this result would cause a loss of international credibility that would only weaken the stock market even further.
All these proposals involve considerable interference in market transactions. Although the logic is to avoid adverse effects of a precipitous decline in stock prices or rises in the value of the yen, it will be a case of short-run gains that lead to long-run losses.
The most vexing proposal is for the injection of public funds to prop up the local stock market. The earlier suggestion was for a commitment of 1 trillion yen in public funds to be injected by the financial institutions that hold the funds in trust.
These so-called price-keeping operations were in use in Japan until the end of the 1990s. Until then, funds from postal saving accounts and the post-office life-insurance program were used to buy up shares when markets began to slump.
One of the supporters of the earlier plan urged that the government should only purchase blue-chip stocks whose prices are expected to go up! This is a breathtakingly uninformed view of how markets work. As recent volatility in the Dow and Nikkei has indicated, even blue chips get the blues. In any case, government bureaucrats are no more likely to be prescient about stock picking than other investors. If it were simple, we would all be rich.
The essential problem is that government involvement in the economy is never politically neutral. Adding a high political content into stock markets simply pumps air into inflated asset values while increasing market volatility and making it impossible to come up with a clear assessment of the value of traded shares.
In Japan’s case, the use of funds from the postal-savings system (“yucho”) represents a particularly insidious scheme. The yucho itself imposes substantial distortions on the financial system, since it does not pay either company taxes or deposit-insurance premiums. It is also heavily subsidized, in that its deposits are lent to the Finance Ministry and are repaid at above-market interest rates that may cost the government as much as 1 trillion yen each year. Using postal-savings funds will double up the distorting effects of this scheme.
As far as the volatility on Asian stock markets is concerned, political interferences introduce distortions that contribute to speculative fever and promote instability. While many countries seek ways to protect their economies from the harmful effects of short-term capital flows, government intervention in market valuations in Japan and elsewhere will make matters worse, not better.
Instead of looking for short-term cures for its stock-market woes, Japan’s leaders should be moving ahead with restructuring the domestic sector of the economy. Indeed, it is important to realize that there are no quick remedies that can restore sustainable growth. The sooner they stop this quixotic search, the sooner Japan’s long-drawn-out cycle of sluggish growth and deflation will end.
Despite these criticisms, the LDP could do one thing that would immediately create more confidence in the stock market and the domestic economy. That would be to force Prime Minister Yoshiro Mori to step down. An end to his rudderless leadership would surely inspire a positive reaction from investors.
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