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Prime Minister Yoshiro Mori recently traveled to Davos, Switzerland, to attend the annual meeting of the World Economic Forum. He stayed there for only half a day, returning home immediately after delivering a speech.

Mori, the first Japanese prime minister to attend a WEF meeting, has said that there is little recognition of Japan’s importance in international affairs and he was hoping to correct the situation. Then why didn’t he allow himself more time for frank exchanges of opinion with U.S. and European leaders there? Mori’s quick departure could have stirred suspicions that he was not serious about Japan’s need to play a more active role in international affairs.

In his speech, Mori said Japan will start a robust economic recovery soon and will play a leading role in the world economy. He explained that Japan is now in the final stage of its balance-sheet adjustment, which had been managed without triggering a sharp fall in people’s income despite an asset devaluation of 1,000 trillion yen between 1992 and 1998 as a result of land- and stock-price drops. The amount was equivalent to twice Japan’s gross domestic product. Mori also said Japan is implementing an ambitious program to promote the information-technology revolution and hopes to remain the world’s top provider of official development assistance.

Mori apparently sought to impress other countries with his confidence in Japan’s economic performance amid fears that the once-thriving economy is losing steam. Last year, the WEF downgraded Japan to No. 21 in its national ranking of competitiveness.

Japan has just started reforming its economic structure after many years pushing short-term policies to expand domestic demand and overprotecting industries with little growth potential. Most people would agree that Mori’s speech was intended to gloss over Japan’s economic difficulties. As expected, U.S. officials reportedly were critical of Mori for failing to confront tough issues head on.

At the meeting, Stanley Fischer, deputy managing director of the International Monetary Fund, said the IMF had been forced to lower its estimate of the world’s real gross domestic product in 2001 due largely to the U.S. economic slowdown. But Fischer predicted that the U.S. economic slowdown would be brief, noting that President George W. Bush’s tax-cut plans will bolster the economy in the long term. Former U.S. Treasury Secretary Lawrence Summers discounted the possibility of a sharp U.S. economic downturn, citing the lack of inflationary pressure, which is unlike past business cycles. The Federal Reserve could cut U.S. interest rates further, Summers added.

European leaders were optimistic about the economic outlook in the region, saying that lower oil prices will give the European Central Bank more leeway to cut interest rates and that tax cuts in various countries will boost economic recovery.

However, some U.S. and IMF officials said Japan will have difficulty getting its economy back on track for sustainable growth, after years of zero growth in real terms. Others criticized Japan for failing to push structural reform in the banking sector, especially in reducing bad loans. Most agreed that Mori and other Japanese officials were complacent about the economy.

Japanese officials said Japan will benefit from the expansion of its cell-phone market, growth in the merger-and-acquisition business and reform in employment practices. However, Summers blasted Japan for failing to face up to tough realities, saying microeconomic measures were not enough.

I do not think Japanese officials were mistaken in saying the nation is belatedly moving toward economic recovery. Furthermore, some U.S. officials said the Bank of Japan should underwrite government bonds to boost the economy. This view is unacceptable, since private-sector demand for capital remains stagnant in Japan even though the BOJ continues to supply money at rock-bottom interest rates.

Western officials, however, are correct in pointing out that that the government, the banking sector and low-growth industries are slow in pushing structural reform.

The traditional recourse of boosting domestic demand through monetary and fiscal policies has reached the limits of its effectiveness. The only way to get the economy back on track for sustainable growth is to promote drastic economic reform. We cannot afford to evade economic reform in the long term, even though it could cause temporary deflationary pressure on some sectors. Banks have been too slow in reducing bad debts. If the government were to expand fiscal spending further to stimulate the economy, it would be saddled with increased long-term debts, which would stir fears of higher taxes and higher interest rates. Japan’s long-term debt already far exceeds its gross domestic product. However, an immediate cut in fiscal spending would be politically infeasible and would have too strong an impact on the economy.

Japan needs to stimulate latent demand that is likely to boost future growth, while keeping fiscal spending at the present level. It should infuse capital and provide tax benefits to concerned sectors. Furthermore, it must cut expenditures and tax benefits that will not improve living standards or will not strengthen industries.

Japan has the world’s largest amount of financial assets held by individuals, mostly in bank deposits and postal savings. Efforts should be made to prevent the transfer of these funds into public sectors with low efficiency and low priority. Fiscal spending should be reformed by promoting urban redevelopment, establishing an industrial-waste recycling system, developing a better social-security system for the graying society, and changing employment policies.

The “lost decade” that followed the collapse of the bubble economy stemmed from the government’s slow reform and overprotection of some industries. Unless the government starts full-scale structural reform soon, Japan will have no future and will be an object global ridicule.

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