U.S. may avoid Japan’s brand of ‘lost decade,’ expert says

Exclusive reporting for FinReg21 by Darrell Delamaide

The U.S. economy may not be in for a “lost decade” after all, according to one expert on Japan whosees significant differences between the current situation in the United States and that which faced Japan in the 1990s. 

A number of prominent economists have warned that this country could face a long period of slow or negative growth like that experienced by Japan if proper action wasn’t taken to right the financial system and put economic recovery on track. 

Now, however, as banks raise new capital and rush to pay back government aid, the economy itself is showing signs of recovery. 

“One of the main differences has been the fiscal and monetary response, which has been much quicker and more dramatic than it was in Japan,” says Devin Stewart, an East Asian expert at the Carnegie Council for Ethics in International Affairs.

When Japan entered an economic downturn after stock market and real estate bubbles burst in the 1990s, officials remained in denial too long and took only timid or even counterproductive measures, Stewart says. 

Thanks to the quick response by the Federal Reserve to inject massive liquidity into the financial system and the government’s economic stimulus package, the current recession in the United States is looking more like a V-shaped recession – that is, a quick rebound after a short fall. Last fall, many economists were forecasting a U-shaped recession – a downturn with a long period of flat growth before recovery – or even an L-shaped recession – a downturn with no clear timing for recovery.

It remains to be seen, cautions Stewart, whether the U.S. recession turns into a “double dip” or W-shaped recession, with a second sharp decline after a recovery begins.

If recovery does start to take hold later this year, it would mean that the government’s program of forbearance for the banking system – giving the banks some breathing room until a recovering economy can help them rebuild their balance sheets – could work.

In any case, comparisons with Japan’s lost decade don’t work that well because of other differences between the two societies, Stewart says. Japan used the period of slow growth to remedy some of the issues peculiar to the Japanese economy, such as nepotism in corporate governance and a web of cross-shareholdings by large conglomerates. Also, Japan’s economy was much more oriented toward global manufacturing, while the U.S. economy is more domestically oriented. 

Most importantly, says Stewart, the obstacles to entrepreneurship and innovation are far fewer in the United States. While regulated banks may have to rein in some of their riskier activity in the future, innovative financiers will create newer, smaller entities to foster economic growth, he predicts. 

A number of financial experts have suggested that hedge funds and private equity firms will take over some of the investment banking activity now that the classic Wall Street firms like Morgan Stanley and Goldman Sachs have become regulated bank holding companies. 

Other experts remain skeptical that the U.S. administration’s program will cleanse ailing banks of toxic assets and supply them with sufficient capital to resume robust lending. But in any case, it will be more of a made-in-America problem, rather than a repeat of Japan’s lost decade.