Why we are not (quite) a new Japan

 
Allister Heath
SLOWLY but surely, the Bank of England is preparing for another bout of quantitative easing (QE). It hinted as much in yesterday’s minutes, which followed the release of a research paper earlier in the week explaining how it thought QE had boosted the economy last time round. No real surprise there; regardless of what they and their forecasts may claim, the authorities are clearly no longer prioritising the fight against inflation. But whenever central banks start to roll out QE, a question is always asked: are we another Japan?

I have always found that comparison to be flawed. It is true that the UK and Japan both suffered massive bubbles caused by loose monetary policy (in Japan’s case, this was due to the disastrous Plazza Accords of 1985, which devalued the dollar against the yen by 51 per cent, triggering a bubble-creating response by the Japanese monetary authorities).

So of course there are parallels, not least declining property prices and excessive debt. But then these are true of all countries that undergo a credit bubble. There is more to the Japanese disaster than merely years of weak growth and declining asset prices.

Standard Chartered’s chief economist Gerard Lyons has a useful way of looking at Japan’s crisis. He calls it the five Ds: debt, deflation, deindustrialisation, the need for deregulation and demographics. There are similarities with what we see in the UK and the West, but also major differences.

In some ways, our crisis is worse than Japan’s. It ran current account surpluses and was able to fund its massive debt bubble by tapping into its domestic resources. This is not the case in the US, UK or Eurozone periphery, which rely on external funding. Japan’s population always saved a lot and was able to dip into its cash pile when the bubble imploded. Unfortunately, people in the UK have huge personal debts and low savings, which will make the crisis far tougher to endure and get out of.

One area of similarity is that the West faces deindustrialisation, as Japan did. Japan was very much a cartelised, corporatist economy post-second world war; it took years to realise that it needed to reform and even now that process isn’t complete. The West is less bad but also needs radical structural reforms.

In other ways, the West’s problems are much less pronounced. Deflation was Japan’s biggest problem. Its stock market is still at a fraction of the 1989 peak. Land prices peaked in 1991 and took until 2006 to stop falling, triggering horrendous collateral and bad loan problems for banks (which themselves were badly managed and which took years to fully acknowledge and cleanse themselves of their losses). While residential property prices have further to fall in the UK, the trough will hopefully be reached in the next couple of years, after which the situation could stabilise. The big difference in Japan is that consumer prices also fell year after year, increasing the real value of debt. The problem in the UK at the moment is the very opposite: consumer price inflation that remains cripplingly high, depressing demand. This is the biggest difference and why it is incorrect to say that the UK is another Japan. Demography was also a more urgent problem in Japan than it is in the UK and US, which are seeing large inflows of migrants. But both countries will face large age-related liabilities unless they reform their public sectors. Tough times.

allister.heath@cityam.com
Follow me on Twitter: @allisterheath