Bernard Hickey: Japan-style slump scare

5:30 AM Sunday Sep 4, 2011

Older readers will remember a catchy tune released by the Vapours in 1980 called Turning Japanese. Many economists are finding themselves humming it at present, because many developed economies appear to be sliding into a Japanese-style slump.

Japan's property market boomed in the late 1980s, then bust spectacularly in the early 1990s. Japan's stock market has fallen about 70 per cent since and its total economic output is now lower in nominal terms than it was in the early 1990s.

Over the following 10 years, the Bank of Japan slashed its interest rate to zero and held it there. An ageing population became increasingly worried about stocks and property, so they invested more of their savings in government bonds, driving long-term interest rates to 1 per cent.

Japan's politicians kept spending more on "bridges to nowhere" and propping up zombie banks. Many economists believe the only reason Japan didn't slide into a full depression was the growth of its biggest neighbour, China, and exports to the United States.

Now the US and European economies are showing a few Japanese symptoms, with slow growth and falling interest rates. New Zealand may join them if the problem can't be solved quickly. Here are five reasons they're turning Japanese:

Ageing populations

Japan's reluctance to allow in immigrants and a surge of retirees led to many putting savings into term-deposit accounts or bonds. Similar trends are emerging in older Europe and the US.

A political drive to reduce immigration because of high unemployment will worsen the demographic drag.

Zombie banks

More than US$2 trillion ($2.3 trillion) in cash is sitting in the term-deposit accounts of American banks. This hoarding of cash is self-reinforcing, as low investment slows growth and increases the risk of future investments. A refusal to let rotten banks fail allowed many to suck up resources without lending or investing.

Hollowed middle classes

An explosion of outsourcing has allowed many multinationals to cut costs by sacking middle managers and manufacturing workers in developed economies.

The benefits of that cost-cutting have been shifted to shareholders in higher profits. These shareholders, who tend to be richer, are less likely to spend that money, reducing the circulation of that money and in turn reducing growth.

Financial repression

The heavily indebted nature of these developed economies has forced central banks to hold down short- and long-term interest rates to avoid economic collapses and to avoid governments going bankrupt. Governments force pension funds and banks to buy their bonds and keep long-term interest rates low, and central banks cut cash rates to near 0 per cent in vain attempts to fire up economic growth and to keep banks on life support.

Political disunity

Divided political systems in which leaders find it difficult to change policies make it hard for economies to dig themselves out of the morass. Vested interests in bureaucracies or from corporate backers can often block change.

Can New Zealand avoid this fate? Our population is ageing, but not as much as in Japan because we allow immigration. Our banks are not zombies and our middle classes are not as hollowed out as in the US, although there are signs it has started. We have yet to see financial repression, but it is a strategy politicians like because it maintains the status quo.

* bernard.hickey@interest.co.nz

- Herald on Sunday