Why Japan can't get its economy working again
One counter-intuitive explanation for the different performances of the Japanese and American economies during the 1990s is that the Japanese followed American advice too closely. America pounded the negotiating table and called for massive deregulation and new incentives for consumption and spending - while America took a page from the Japanese book and put its economic house in order (up until the GW Bush administration). America went into the black and instituted a pro-growth governmental economic policy while Japan's bureaucrats lost confidence, became distracted by ministerial scandals, and went careening into red ink. Pressured by the United States to implement Keynesian policies to stimulate domestic demand, the Japanese government pumped trillions of dollars into 'unneeded' dams, bridges, roads, and other environmentally destructive construction projects throughout their islands. Today, there isn't a single free-moving river left in Japan.
While the Japanese government didn't need much pressure to pump vast national resources into the politically powerful and structurally corrupt construction industry, the fact that the United States was calling for Japan to break its vows of frugality and spend like there was no tomorrow made the act even easier. From the time of Japan's post World War II reconstruction boom, the construction industry has consolidated its position as one of the main props of the ruling Liberal Democratic Party. From mid-1998 to the end of 2000, the Japanese government spent the equivalent of the gross national product (GNP) of France ($1.4 trillion) on superfluous public works projects and still could not get its economy to start growing. In 1991, Japan's public sector debt was just over 50% of GNP; and today it is just under 150% of GNP, the largest amount ever owed by a developed country in peacetime. Japan in the 1990s followed the break the bank "Ronald Reagan model", with the difference that the US went into debt during the Reagan administration by spending its money on worthless armaments whereas Japan spent its money on worthless public works.
America's ability to get Japan to enact policies obviously not in its interest derives from the legacy of America's victory over Japan in World War II, its subsequent near six decade military presence in the nation, and its heavy-handed pursuit of domestic and international policy outcomes in Japan that suit American preferences. The US doesn't get everything it wants all of the time from Japan; but the relationship is one almost completely designed to serve American needs - and has been since the anti-communist obsessed former US Secretary of State John Foster Dulles transformed Japan from enemy to ally, from a regional hegemon in Asia to satellite and agent serving American interests in a confrontation against the Soviets and Chinese.
One of the reasons why Japan's political and economic problems have resisted reform and seem so intractable is that America helped fashion a powerful set of elite players in Japan and turned a blind eye when institutions that normally should have competed and jousted with each other so better to serve the public interest instead converged and became collusive and corrupt. Japan's bad debt problems today are as much about national identity malaise, rooted in a dysfunctional and out of balance relationship with the United States, as they are a question of balance sheet governance. Indeed, Japan's simmering economic troubles belie a new nationalism born from frustration with the US and the American model. One strain of this nationalism fuels the popularity of Tokyo's Governor Shintaro Ishihara whose past claim to fame was co-authoring 'The Japan that Can Say No', and who now regularly and theatrically rejects the claims of those who try to ascribe to Japan responsibility for numerous war crimes throughout Asia during WWII. Koizumi, the current Prime Minister, has flirted with this nationalist current by visiting Yasukuni Shrine, where Japan's war dead are memorialized, and by refusing to take action against textbooks that whitewash Japan's wartime atrocities in Korea and China. Even the leading opposition candidate, Yukio Hatoyama, is running on a wave of a more liberal strain of nationalism and love of country, and thus a rejection of American dominance, in his call for a US-Japan security alliance in which there are no US troops stationed in Japan. In a speech in Washington, one of Japan's elite former Finance Ministry bureaucrats Makoto Utsumi stated that "even if America's respective policy objective is sound, balanced, and in Japan's ultimate interest - there is so much frustration among Japanese about never ending American demands that the policy proposal gets resistance on an emotional level. America may not know it, but it is crushing the Japanese peoples' identity - and in the end, they won't tolerate it."
Japan today operates under US military and economic hegemony, which significantly limits Japan's range of options, including its ability to adjust to and profit from the trends toward peaceful commerce in China and the peace initiatives on the Korean peninsula undertaken by the Koreans themselves. America's dominance of Japan's political economy has left most parts of the Japanese government in a state of immaturity, never having to make the tough decisions on policy or tough calls between truly contending interests competing to tug Japan one way or another. Instead, Japan has tended to conduct its foreign policy within a space permitted by the US, mostly complementing American goals and objectives on the international stage. This sad state of affairs has generated in Japan the most catastrophically incompetent government of any advanced industrial democracy, a legacy of its Cold War role as a satellite of the United States. Raymond Aron once referred to the Soviet Union's puppets in Eastern Europe as "shameless mediocrities," a description that applies equally well to most post-Occupation Japanese prime ministers.
During the late 1940s, when it became apparent that the forces of the Chinese Communist Party were going to win the Chinese civil war, the United States reversed its policies of attempting to democratize occupied Japan and instead devoted itself to making Japan the US's leading satellite in East Asia. Many of its new policies were similar to those employed by the Soviet Union in setting up and maintaining its satellites in Eastern Europe. But America's economic policies toward Japan and its other satellites in East Asia (e.g., South Korea) were markedly different.
The United States entered into an informal bargain with its dependencies in East Asia. In return for the Asian nations' willingness to tolerate the indefinite deployment of American weapons and troops on their soil, the United States would give these countries preferential access to the American market and would tolerate their protectionism and mercantilism. These were advantages the US did not extend to its European allies or to its Latin American neighbors in the Cold War. This American economic indulgence rested on two basic beliefs: that the poverty stricken economies of postwar East Asia could never compete successfully with the United States and that economic growth was one very important way to divert the people of these economies from the attractions of socialism, neutralism, communism, or other anti-American orientations.
Oddly enough, this policy is still in effect some 55 years after it was first implemented. In return for hosting 37,000 American troops and an equal number of dependents, Japan still has privileged access to the American economy while it maintains protectionist barriers against American sales and investment in the Japanese market. The overall results of this policy became apparent in the 1970s and resulted in acute problems for the American economy in the 1980s - namely, huge excess manufacturing capacity in Japan and the hollowing out of American manufacturing industries. The costs for the US have been astronomical: during the year 2000 alone, it recorded its largest trade deficit ever, of which $81 billion was with Japan.
In 1985, Japan became the world's largest creditor nation and the United States became the world's largest debtor nation, thereby turning upside-down the original assumptions on which the US's economic policies toward Japan were based. But neither the US nor Japan made any changes in their old bases-for-trade deal. Instead, both countries became ever more dependent on each other. Following the US's 1987 stock market crash, Japan bought large amounts of American shares and thereby helped prevent a more serious panic. Moreover, Japan's export of its trade surpluses to the US replaced America's virtual dearth of domestic savings and allowed the United States to run huge external deficits without paying any of the usual costs, particularly a loss in value of the dollar, while keeping inflation low and American financial markets buoyant. If Japan ever does start to bring home even a portion of its huge holdings in US government securities and the United States is forced to finance its own debts from domestic savings, the deflationary impact on the US will be devastating.
The appropriate policy for Japan when it became the world's leading creditor would have been to shift its economy to one that relied much more on domestic demand than on exports, to undertake reforms in order to expand domestic demand, and to forge mutually beneficial trading relations with the US and its other trading partners rather than ones based primarily on Japanese advantages. The unleashing of domestic demand was what former prime minister Hayato Ikeda engineered back in the 1960s in his "income doubling plan" (shotoku baizo). Ikeda's consumer revolution in a society with a population half the size of the United States had been the basis of Japan's initial takeoff into high-speed economic growth. There were equally great opportunities to expand domestic demand in the Japan of the late 1980s and throughout the 1990s - housing, hospitals, urban planning, and urban transportation all were (and still are) inadequate - but this is not the route that Japan's economic bureaucracy chose.
Instead, the Japanese government decided to bind itself ever more firmly into its old Cold War relationship with the United States, trying to maintain its one-way trade advantages by investing in ever larger and more efficient productive capacity. According to Kenneth Courtis, then chief economist for the Deutsche Bank in Tokyo, between 1986 and 1991, Japan invested some $3.6 trillion in new plants and equipment and in research. This was aimed at reducing the costs of manufacturing by 40 to 50 percent.  The net result, however, was to build huge excess capacity without regard to international or domestic consumer demand. And this led to a banking crisis - as well as a stagnant economy - that Japan has yet to overcome. Nonetheless, the actual performance of the economy did not force the government to undertake a drastic change. Rather than a decade of recession, Japan actually had a decade of slow to moderate growth. Between 1994 and 1997, the US's per capital gross domestic product (GDP) grew by some 13.6 percent whereas Japan's grew by 5.3 percent.
In response to the immediate cause of the slowdown that started in 1990 - the crippling of the banking sector because of speculative lending - the Japanese government chose to try to "grow" its way out of the problem. As in the past, it relied on its powerful export sector to pay the bills and tried to get the stronger banks to help the weaker banks via the so-called convoy system [ital.] (goso-sendan soshiki). This meant that the government would deal with banking inefficiency and overcapacity gradually through mergers and cutting employment through natural attrition. The government did not use Japan's huge hoard of domestic savings to liquidate the non-performing loans, nor did it order the consolidation of the financial sector because it was too weak politically to accomplish this. "Growing out" of its troubles, however, was a wildly unrealistic policy. Ronald Bevacqua of Commerz Securities, Tokyo, quotes estimates from the Industrial Bank of Japan that in real estate, wholesale and retail sales, and construction, repayment of debt out of projected cash flow would have required 84 years, 32 years, and 19 years respectively. 
Throughout Japan's decade of slow growth the United States criticized the Japanese government for mismanaging its economy, arguing that the prominent role Japan gives the state in shaping the nation's economic destiny is what was causing Japan's problems. However, the evidence suggests precisely the opposite. Japan in recent years was not overregulated but underregulated and its capacity to formulate good policies and implement them was undercut by political factors. The country's problems began in the late 1980s when the Ministry of Finance exercised weak or nonexistent supervision over its chief clients, the banks, in their irresponsible lending to speculators. Japan's subsequent failure to undertake serious reforms during the 1990s was not caused by the economic bureaucracy's intervention in the economy but by the economic bureaucracy's loss of autonomy in implementing policies in the face of vested interests. As the World Bank's former chief economist, Joseph Stiglitz, concluded, "The scapegoat was overregulation; the real culprit was lax oversight." 
The intent of the US's criticism was to discredit alternatives to the American model, particularly East Asia's "capitalist developmental state," and thereby provide a sound ideological foundation for further pursuit of an American-dominated liberal democratic order.  American ideologues ignore cultural orientations that make the purpose of capitalism in many East Asian countries different from that of serving only the short-term interests of shareholders. They also wildly overstate the attractiveness of the American model. As John Gray puts it, "The idea that the United States is a universal model has long been a feature of American civilization... Yet the claim of the United States to be a model for the world is accepted by no other country. The costs of American economic success include levels of social division - of crime, incarceration, racial and ethnic conflict and family and community breakdown - that no European or Asian culture will tolerate." 
The actual problem in Japan is not economic but political. The political party that has in one form or another reigned over the country since 1949 has become merely preservative, as well as corrupt and incompetent. Its old role as an anti-communist bastion and a formal cover for technocratic rule by the state bureaucracy is no longer relevant. But the Americans love it. Evidence has recently emerged that the US government made vast sums of money available to the political players that consolidated their fortunes into the Liberal Democratic Party while at the same time bribing others in the Socialist and progressive camps to divide and former separate and thus weaker opposition parties to the ruling LDP.
In April last year, a seeming breath of fresh air crept into the stale corridors of LDP power when the rank and file members of the party, who rarely participate in the election of their party president, rejected the choice of candidates being handed down by party bosses and instead elected the eccentric and charismatic Junichiro Koizumi. Koizumi had run for the party helm before, losing to the late Prime Minister Keizo Obuchi. While considered a reformer by the public, he has nonetheless survived in one of the most ruthless and perhaps second most 'corrupt' factions of the LDP whose boss had been the forgettable former prime minister Mori. Public consciousness has significantly grown about Japan's economic malaise and the irresponsible management of the nation's affairs by the LDP. Stories abound in legitimate media of corruption, of squandered resources on unneeded public works projects, and of LDP leaders posing as lap-dogs of the Americans and their ninety-one military bases in Japan. After the LDP repeatedly naming incompetent leaders who embarrass the country with their gaffs and gaucheries, Koizumi seemed like a bright, fresh inspiring personality compared with the miserable leadership of the past. Unfortunately, the public has again been seduced by failed leadership as Koizumi seems to have adopted a policy of style over substance, and of the talk of change over real reform.
One of the most distinctive and unusual steps Koizumi took early in his tenure was to name five women in his cabinet - but even this has come undone in the firing of the provocative but incredibly popular Makiko Tanaka, who served until the end of January 2002 as foreign minister. She is the daughter of the late prime minister Kakuei Tanaka, who created the enormous, graft-driven political machine that has kept the LDP in power and who, in 1972, also recognized China. Her appointment seems to signify Japan's growing impatience with the United States's baiting of China. As Tanaka's daughter she has a real cachet in Beijing and has moved swiftly to distance Japan from the Americans' bellicose foreign policy. America will no doubt be gleeful at her departure from office - but this again will further alienate the broad Japanese public against the perceived imperiousness of the US
Koizumi cannot really bring about the reforms that Japan needs, much less address its crippled banking system with ¥70 trillion in unrecoverable loans. To the extent that the party's ploy of installing a popular figurehead in order to remain in power actually works, it will mean no real change in Japan. The Koizumi premiership will be just another rerun of failed "reform" efforts, a strategy the LDP has employed at least three times in the past (in 1974 with Takeo Miki after Tanaka was forced from office because of corruption charges; in 1989 with Toshiki Kaifu, another powerless "Mr Clean"; and in 1994, with the old Socialist Tomiichi Murayama, whom the LDP put at the head of a coalition in order to preserve its monopoly in parliament). Japan's economy, indeed its national self-respect, requires something much more than a new face.
What is needed for Japan and for all of East Asia is an end to American hegemony, the development of a political system in Japan that actually brings genuine leaders to power, and the restoration of industrial policy to its proper place in the society that pioneered and perfected its use. Japan may tinker with its interest rates and with overcoming its crisis through government-created inflation. But it will only come into its own as a major nation when it has a legitimate and popularly supported government that can elicit from the people the kinds of sacrifices the Japanese made in the early postwar period of high-speed economic growth. Such a government would distribute these hardships equitably and put the needs of its own country and region ahead of the interests of American military strategists. Such a government would not be frightened by the enrichment of other areas of East Asia and would try to assist their further development. Such a government is, however, nowhere on the horizon and therefore the prognosis for peace and stability, given trends in the current US government, is bleak.
1 Quoted in Richard McCormack, "Japan to displace US as world's largest economy," 'New Technology Week' 6 (20): May 18, 1992. [Back]
2 Ronald Bevacqua, "Japan's old guard vs. the Internet revolution," 'Asian Wall Street Journal', March 1, 2000. [Back]
3 Joseph Stiglitz, "How to fix the Asian economies", 'New York Times', October 31, 1997. [Back]
4 On the developmental state, see Meredith Woo-Cumings, ed., 'The developmental state' (Ithaca, NY: Cornell University Press, 1999). [Back]
4 John Gray, 'False dawn: The delusions of global capitalism'. New York: New Press, 1998, p227. [Back]