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Turning Japanese?

Author: Jayshree Bajoria
October 21, 2008


As fears of a global recession grow, some economists think Japan's experience in the 1990s may offer guidance for tackling the current crisis. As with the U.S. financial crisis, Japan's economic slowdown originally sprang from a real estate bubble. In the late 1980s, Japan's monetary authorities flooded the market with liquidity to help businesses cope with the rising value of the yen. This money fed speculation, and market valuations of both equities and land, particularly commercial real estate, soared. "Banks considered most loans with real estate as collateral as being unquestionably secure," notes a new Congressional Research Service report (PDF). In 1990, the bubble burst, bringing the Japanese banking sector to its knees. Those watching the subprime crisis that started in the United States last year, now a full-blown financial crisis, quickly seized on the similarities.

An important difference between the two crises could prove to be the speed of Washington's and Tokyo's respective responses. Whereas Japan took the better part of a decade to begin a bailout program, the United States acted much more quickly--and then followed up by moving to recapitalize banks (MarketWatch)--moves hailed by analysts as necessary first steps toward preventing the kind of "lost decade" that resulted from Japan's breakdown.

However, Japan had the great advantage that it was a creditor nation with a large current account surplus, and the Japanese government could borrow from the Japanese household sector. "One of the interesting questions is whether that will be true for the United States, which is much more reliant on foreign savings," says Martin Wolf, the Financial Times' chief economics commentator, in a new interview.

Despite these differences, the United States, the world's largest economy can still learns lessons from historical financial troubles of Japan, the world's second-largest economy. Japan experienced almost a decade of economic stagnation, coupled with crippling deflation, in which a general decline in prices discourages investment and spending, slowing down economic growth and resulting in higher unemployment. David M. Rubenstein, the cofounder and managing director of the private equity firm Carlyle Group, tells that Washington now faces its own deflationary pressures. Moreover, Rubenstein says, Washington has limited policy options to deal with deflation, given that it has already cut interest rates sharply to promote economic growth. "We have tools in our economic kit to deal with inflation," he says. "We don't have as many tools to deal with deflation."

Perhaps the most glaring difference between Washington's present downturn and Japan's of the 1990s is the scale of the respective crises. While some economists predict Washington's woes might be shorter lived than Japan's lost decade-Wolf predicts the U.S. fallout will be "quicker and possibly more brutal"-even a shorter-lived U.S. downturn could wreak massive collateral damage on the global economy, given the sheer size of the U.S. economy. Japan's crisis, by contrast, was largely confined to the country, occurring at a time of a booming U.S. economy and a fast-growing China. "The situation now is completely different; the United States unlike Japan in the 1990s does not have the rest of the world to soften the blow," Liliana Rojas-Suarez, a senior fellow at the Center for Global Development, tells Washington Post. Now the main question is the extent to which Washington's downturn will dampen growth elsewhere in the world.

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