What to Expect from Abenomics
Four Arrows to Target Four Challenges
In April 2013, the Bank of Japan surprised global markets by announcing an aggressive package of policy measures — Abenomics — aimed at pulling the country out of decades of deflation and sluggish economic growth. A temporary fiscal stimulus of ¥10 trillion announced in January 2013 was quickly followed by decision of the Bank of Japan to raise its inflation target to 2%, which in turn was followed by a commitment of the Bank of Japan under a new leadership to engage in large monetary stimulus through asset purchases over the next two years to reach that target. These actions gave investors hope that the two ‘lost decades’ in Japan may finally be coming to a close, and led to a sharp depreciation of the yen and significant equity market outperformance.
In the report that follows, Willem Buiter and the Global Economics Team take a look at the tools they believe Japan’s policymakers have at their disposal to combat the challenges which have been affecting the Japanese economy for the past decade or two. Officially the Japanese Finance Minister limits Abenomics to “three bazookas”, or three arrows in their quiver that are used which are monetary stimulus and temporary fiscal stimulus to achieve the new inflation target and close the output gap. Third come structural reforms to put growth “on a sustainable orbit”, presumably at a higher rate than the 0.8% per annum that Japan has achieved over the last two decades. In addition to these, there is a fourth “arrow” that policy makers don’t generally mention: a programme of tax increases and public spending cuts that will ensure the restoration of fiscal sustainability.
The first two arrows look likely to hit their target, as the announced fiscal-monetary actions come close to “helicopter money”, and helicopter money is effective in raising inflation and stimulating domestic demand, even though there remains the risk that policy actions will eventually fall short of what is needed to achieve these targets.
Vested interests are likely to continue to oppose vocally and effectively major structural reforms, including the deregulation of the service sectors or materially reforming the labour market and relaxing barriers to immigration. Despite this strong pushback to structural reform, the authors are less pessimistic than the historical record would suggest as domestic and external / global political reasons are indicating that ‘this time might be different’. The Abe administration appears to have a relatively strong political mandate which encompasses aspirations for change and reforms to make Japan stronger economically and politically. Long-enduring underperformance may be one factor in opening the reform window, but the increasing political and economic strength of China is likely to be at least as powerful in focusing the minds of Japanese policymakers. Strengthening the geo-political partnership of Japan with the U.S. suggests that external liberalization may catalyse domestic reforms, while the ever-shrinking agricultural sector will gradually be less effective in opposing reforms. The prospects for serious structural reform in Japan are thus better than they have been for a long time, but progress may still be slow and non-monotonic, as the disappointing efforts so far show.
Meanwhile, the final (fiscal) arrow will likely be used only sporadically. It will get a useful leg up from the fiscal effects of the BoJ’s monetary actions, but a full restoration of fiscal-financial sustainability will likely require market pressure.