post war times always bring about an economic prosperity on account of increased consumer demand and government spending. After Japans defeat in the World War II, it witnessed an era of the economic miracle and became one of the worlds fastest growing, and biggest economies of the world. Riding on a high tide Japan had managed to evade the Arab Oil shock of the 1970s and in the early 80s emerged as an economic power following which the government sought to liberalize the yen for world trade and it appreciated sharply against the dollar. Japan has always had a high savings rate among its people and a trend that was emerging in the late 1980s was of easy credit being available to people to make risky investments in real estate driving property prices to unsustainable levels. This was particularly worrisome because of the involvement of the banking sector in giving these loans. Not only banks but Non- Banks, which at the time were borrowing from the banks, were giving even riskier loans. The artificial demand inflation, toxic loans, and an appreciating 1990s: The Lost Decade of Japan By: Shreyans Gangwal
Balance Sheet Recession
Economist Richard Koo analyzed the problem of Japan as not completely monetary, fiscal or structural; rather a balanced-sheet kind of a recession. He said that a crisis that generates losses in financial assets/wealth causes both firms and households to place priority on repairing their balance sheets. The low interest rate funding by the government to undo the damage was being used to get rid off the debt on the balance sheets rather than increased spending and furthering the debt and in such kind of cases increased fiscal policy measures to buy off debt from companies and households stands more effective. The drop in prices on Japans equity markets combined with a sharp decline in land prices generated losses of about 1,500 trillion ($14 trillion) or roughly three times Japans gross domestic product at that time. Nikkei Index had fallen by more than 50% in a year.
yen were showing early signs of a real- estate bubble. Government responded in 1989 by raising the interest rates from the levels of 2.5% to 6% followed by subsequent rise in 1990 due to the Oil Prices appreciation scare following Irans invasion of Kuwait. This was the beginning of the bubble burst when property prices plummeted. The Nikkei index which had peaked to the levels of 40,000 in 1989 fell dramatically to over 50% in one year & more than 78% by the end of 2002. The crisis began as a financial crisis and ended up in the overall slowdown of the Japanese economy. Causes
Initially the asset price bubble was primarily fuelled by the easy credit and rampant crowd mentality to buy any available land. This was the time of the high tide. Excessive savings of the Japanese people, following the regulatory policies, was a cause of the increase in purchases. The banking sector was closely related and a major problem was because of the close ties between the corporations and banks where loans directly went into real estate and the returns went into the banks assets allowing for more loans. This circular trend had contributed to the inflation of the bubble. Non- banks which borrowed from the banks had also started giving risky loans and the scheme had become so large that customers were flocking NBs to snatch whatever land was available. This recession was triggered by the interest rate hikes and was to over a decade due to poor policy measures by the government. There were also the structural problems in the economy. Government had not opened up the market and deregulation wasnt allowed for a long time inhibiting competitive market driving forces. The policymakers time and again misunderstood the situation making the wrong policy decisions. Impact
Japanese Banks are allowed to hold equities as a part of their capital base. The stock market which had peaked in 1989 (Nikkei Index was at all-time high levels of 40,000) had crashed to more than 78% (8700 levels) by the end of 2002. The unrealized capital gains of these stock holdings had dropped from $355 billion to about $40 billion in 2002 reducing banks capital reserves. Residents & land values had fallen by about 20%. By the end of 1998, government had invested about 60 trillion yen, which is about 12% of the GDP, to support the banking system. Out of the 21 major financial institutions in Japan in 1990, only 14 still existed in 2000- the rest were either merged into larger entities or simply dissolved. The stock market never regained the peak levels from the 1980's, and continued to decline until well into the 2000's. Government Interventions
Till today people while discussing the US sub-prime crisis cite Japanese poor policy decisions which caused the recovery over a decade which
is still arguable. The Japanese debt as of June 2013 had touched the levels of 1000 trillion yen. Unlike the great depression, wherein the economy had crashed suddenly, this was more of a gradual decline. There were structural defects in the system; government for long had shielded the markets against the natural order of supply and demand and they responded to inflation by increasing the interest rates drastically. In 1991, the minister of finance had to recognize the failure of about 10 small banks seeking major banks to assume their liabilities. There were fiscal and monetary blunders. There was a time when the government had introduced zero-interest rate policy to further consumer demand and end the recession and the debt sheet climbed up levels of 167% of the GDP. In 1995 some signs of recovery started popping up and not comprehending the delicate state of the economy govt. was back on fiscal consolidation measures trying to reduce their deficit and the economy was thrown back into recession again. (This was the time of the Asian Crisis of 1997) Recovery & Lessons
The recovery which could have been possible by 1995 was prolonged to over a decade and still haunts the Japanese economic growth. In 1990 there was great expansion in the mining industry and when the artificial boom ended the GDP growth rate, by industry sector, was worst in the mining industry, followed by manufacturing, and then wholesale and retail and finally, the service industry had experienced the smallest contractions. When Japan had announced an early financial rescue package, it placed stringent conditions on the assistance that banks were unwilling to accept and the result was that the banks ignored the package and tried to bolster their balance sheets by not lending. This was seen as worsening the economic conditions for the country. Comparing it with the current US debt crisis this was different as the defaults in Japan tended to be on commercial property rather than that on private residences and unlike sub- prime lending this was more of relational lending to the corporates where the loans were extended without due diligence. But what had initially started off as a banking crisis developed into an economic stagnation wherein the lower commercial profits caused more loans turning bad and the depression coupled with poor policy measures led to the loss of a decade. References http://www.mo.t.u-tokyo.ac.jp/seika/files/WP04-08motohashi1.pdf http://aparc.stanford.edu/research/2033/ http://fpc.state.gov/documents/organization/125542.pdf http://mises.org/daily/1099